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BANKING    PRACTICE 


A  TEXTBOOK  FOR  COLLEGES  AND  SCHOOLS 
OF  BUSINESS  ADMINISTRATION 


By 

L.  H.  LANGSTON,  M.S. 

Of  The  National  City  Bank  of  New  York 
And 

N.   R.  WHITNEY,  Ph.D. 

Professor  of  Finance,  College  of  Engineering  and  Commerce, 
University  of  Cincinnati 


Third  Printing 


NEW  YORK 
THE  RONALD  PRESS  COMPANY 

1922 


Copyright,  1921,  by 
The  Ronald  Press  Company 


All  Rights  Reserved 


ai; 


PREFACE 

The  purpose  of  this  book  is  to  furnish  a  textbook  dealing  with 
banking  technique,  organized  from  the  standpoint  of  functions 
rather  than  of  bank  departments.  This  arrangement  has  been 
followed  to  enable  the  student  to  get  the  administrative  point  of 
view  together  with  an  understanding  of  practical  banking  opera- 
tions. He  can  do  this  from  the  standpoint  of  functions  where  he 
would  find  it  almost  impossible  to  think  clearly  in  terms  of  de- 
partment organization  and  details  of  operation  regarding  which 
he  really  has  no  conceptual  background. 

Such  an  arrangement  fits  the  book  both  to  the  pedagogical 
requirements  of  the  teacher  and  to  the  background  of  information 
which  the  student  really  possesses. 

The  basis  of  the  present  volume  is  found  in  "Practical  Bank 
Operation,"  prepared  under  the  direction  of  the  National  City 
Bank  of  New  York  by  Mr.  L.  H.  Langston,  and  pubhshed  by  the 
Ronald  Press  Company.  It  represents,  in  fact,  a  reworking  of  the 
material  there  given  descriptive  of  actual  banking  technique, 
with  the  purpose  of  suiting  it  to  class  use  as  a  text.  The  aim  of  the 
authors  has  been  to  enable  students  to  make  full  use  of  this  unique 
cross-section  of  a  great  city  bank  of  today,  by  mdicating  for  him 
the  typical  features  of  bank  procedure  as  they  present  themselves 
in  a  working  organization. 

To  render  the  technical  detail  more  readily  intelligible  to  the 
student,  extensive  changes  have  been  made  in  the  arrangement 
and  form  of  presentation,  and  much  new  material  of  an  explana- 
tory nature  has  been  introduced.  For  such  changes  and  addi- 
tions, of  course,  the  National  City  Bank  is  in  no  degree 
responsible. 

In  the  text  as  so  worked  out  the  authors  have  sought  to  explain 
the  actual  procedure  in  the  handling  of  banking  transactions,  and 


389038 


IV  PREFACE 

to  remove  the  mystery  which  for  the  layman  enshrouds  banking 
terminology.  At  the  same  time,  they  have  sought  to  set  forth 
clearly  and  sufficiently  the  theory  underlying  all  of  the  operations 
described,  so  that  the  student  who  thoroughly  masters  the  book, 
if  confronted  with  the  task  of  putting  through  any  banking  trans- 
action, will  be  in  a  position,  if  necessary,  to  reason  out  for  himself 
a  satisfactory  method  of  procedure. 

L.  H.  Langston 
N.  R.  Whitney 
New  York  City, 
January  25,  1921. 


CONTENTS 


Chapter  Page 

I     Organizing  a  Bank 3 

II    Managing  the  Bank 17 

III  The  Bank  as  a  Going  Concern 37 

IV  Over-the-Counter  Receipts 56 

V    Other  Receipts 74 

VI    Paying 85 

VII     Clearing loi 

VIII     Transits 126 

IX     Collections 149 

X    The  Foreign  Exchange  Business 169 

XI     Methods  of  Handling  Foreign  Exchange    .      .      .  183 

XII    Accumulating  Exchange 193 

XIII  Accumulating    Exchange    Through    Commercial 

Credits 210 

XIV  Selling  Exchange — Import  Collections  and  Foreign 

Drafts 222 

XV     Selling  Exchange — Travelers'  Credits  and  Com- 
mercial Credits 233 

XVI    Extending  Credit 250 

XVII    Loans  and  Discounts 273 

XVIII    Loans  and  Discounts  (Continued) 286 

XIX    Investments  in  Securities 305 


V 


VI  CONTENTS 

Chapter  Page 

XX     Keeping  the  Individual  Ledgers 313 

XXI     The  General  Ledger 328 

XXII    Audits  and  Examinations 340 

XXIII  Fiduciary 350 

XXIV  The  Bank  as  Representative  of  Customer        .      .  362 
XXV  Advisory  Functions    ......      o..  374 


FORMS 


Forms  Page 

1 .  Demand  Certificate  of  Deposit 65 

2.  Indefinite  Time  Certificate  of  Deposit 65 

3.  Chart  Showing  Disposition  of  Items  Passing  Through  Receiving 

Teller's  Department 68 

4.  Receiving  Teller's  Batch  Proof 70 

5.  Receiving  Teller's  Daily  Proof 72 

6.  Chart  Showing  Disposition  of  Cash  and  Collection  Mail  Items  Re- 

ceived by  the  Mail  Teller's  Department   77 

7.  Fourth  or  Mail  Teller's  Daily  Proof 78 

8.  Clearing  House  First  Ticket         112 

9.  Settling  Clerk's  Statement 115 

10.  Statement  of  Condition  of  Clearing  House  Banks        .      .      .      .    122,  123 

11.  Remittance  Letter  to  Correspondent  Bank 131 

12.  Bill  for  Exchange  Charges 143 

13.  Collection  Register 156 

14.  Coupon  Envelope 158 

15.  Remittance  Letter  for  Collection  Items 159 

16.  Letter  Advising  Credit  for  Proceeds  of  a  Collection    .      .      .      .    163,  164 

17.  Cable  Position  Sheet 191 

18.  Commercial  Letter  of  Credit 211 

19.  Beneficiary's  Card  or  Credit  Advice 218,219 

20.  Letter  Transfer  or  Foreign  Payment  Letter 229 

21.  Travelers' Letter  of  Credit 234,235 

22.  Travelers'  Check 236 

23.  Comparative  Statement  of  a  Corporation 263,  264 

24.  Trust  Receipt 284 

25.  Loan  Contract 293,  294 

26.  Customers'  Liability  Ledger 303 

27.  Customers  Ledgei         320 

28.  Monthly  Interest  Earnings  Statement 335 

29.  Published  Statement  of  Condition 338 


BANKING  PRACTICE 


CHAPTER  I 
ORGANIZING  A  BANK 

Methods  of  Incorporation  and  Organization. — From  the 
standpoint  of  organization  there  are  three  types  of  banking  in- 
stitutions: private  banks,  state  banks,  and  national  banks. 
Those  in  the  first  group  are  unincorporated,  those  in  the  second 
and  third  are  incorporated. 

A  corporation  is  an  association  of  persons  banded  together 
to  carry  on  a  specified  business,  obtaining  for  this  purpose,  by 
means  of  a  charter,  certain  rights  and  advantages  which  cannot 
otherwise  be  enjoyed.  The  most  important  of  these  advantages 
are  a  limitation  of  the  members'  liability  for  the  debts  of  the  cor- 
poration, a  continuity  of  existence  not  affected  by  the  death  or 
withdrawal  of  any  member  of  the  group,  and  the  grant  of  a  legal 
personality  to  the  association,  thus  conferring  upon  it  the  right 
to  buy,  sell,  and  hold  property,  with  the  power  to  sue  and  the 
liability  to  be  sued  in  the  courts.  The  capital  stock  of  a  corpora- 
tion is  divided  into  shares  of  uniform  value  which  are  distributed 
among  the  proprietors  in  proportion  to  the  sums  they  invest  and 
which  may  be  sold  and  transferred  at  the  will  of  the  owner. 

Private  Banks. — Private  or  unincorporated  banks  operate 
without  charter  or  special  authority  from  a  governmental  body 
and  in  this  respect  they  are  similar  to  any  other  private  business. 
There  are  certain  disadvantages  inherent  in  this  method  of  bank 
organization.  First,  the  disadvantages  of  individual  proprietor- 
ship as  compared  with  corporate  organization  apply  to  banking 
no  less  than  to  other  lines  of  business.  Secondly,  since  such  in- 
stitutions are  not  incorporated  they  have  not  been  subject  to 
inspection  by  public  officials,  nor  have  they  been  compelled  to 

3 


4  Nanking  practice  [t 

render  reports  of  their  business  to  public  authorities.  Hence 
there  is  perhaps  an  element  of  secrecy  about  their  resources 
and  operations.  The  tendency  in  recent  years,  therefore,  has 
been  to  prohibit  the  performance  of  banking  functions  except 
under  state  or  federal  supervision,  and,  in  those  states  in  which 
private  banks  are  permitted  to  operate,  to  require  them  to 
submit  to  a  degree  of  regulation  and  supervision  by  state 
authority. 

Banks  under  State  Supervision. — State  banks  are  institutions 
authorized  by  state  laws  to  carry  on  the  banking  business. 
Though  each  state  enacts  its  own  laws  to  regulate  corporations 
desiring  to  engage  in  banking,  there  is  considerable  similarity  in 
the  legal  banking  provisions  of  all  states. 

Two  methods  of  authorizing  persons  to  engage  in  the  banking 
business  have  been  in  use  in  this  country.  In  the  early  period 
charters  were  granted  by  special  acts  of  the  various  state  legis- 
latures. The  persons  desiring  to  engage  in  banking  had  their 
representative  introduce  a  bill  which  authorized  them  to  begin 
business  and  specified  the  conditions  under  which  the  business 
was  to  be  carried  on.  The  disadvantages  of  this  method  are 
obvious.  Charters  were  granted  to  those  associations  with  most 
political  influence  and  power  and  in  some  instances,  it  has  been 
charged,  to  those  who  used  part  of  their  financial  resources  to 
influence  the  legislatures;  whereas  those  groups  whose  members 
were  politically  opposed  to  the  party  in  power  seldom  obtained 
recognition.  The  granting  of  special  charters  has  therefore  been 
superseded  by  a  second  method — the  adoption  of  general  incor- 
poration laws.  These  laws  specify  the  conditions  that  must  be 
met  and  the  manner  in  which  the  banking  business  must  be 
carried  on.  Any  group  of  individuals  which  compHes  with  the 
preliminary  requirements  and  subscribes  to  the  rules  for  the  con- 
duct of  the  business  may  now  obtain  a  charter  to  engage  in 
banking. 


I]  ORGANIZING  A  BANK  5 

Banks  under  National  Control.— Banks  under  national  con- 
trol have  received  their  charters  from  the  federal  government, 
and  are  required  to  use  the  word  "National "  in  their  title.  The 
National  Bank  Act  of  1863  authorizes  persons  in  any  part  of  the 
country  to  make  application  to  the  federal  government  for  per- 
mission to  carry  on  a  banking  business  under  the  terms  granted  by 
that  act.  The  preliminary  conditions  to  be  met  and  the  restric- 
tions on  operation  are  uniform  for  all  institutions  calling  them- 
selves national  banks.  From  the  standpoint  of  numbers  the 
state-chartered  institutions  far  exceed  the  national  associations. 
But  from  the  standpoint  of  resources  and  financial  influence  the 
national  bank  system  is  the  more  important. 

Need  for  Government  Regulation. — There  are  two  strong 
reasons  for  the  control  of  the  banking  business  by  government 
authority,  whether  state  or  national.  The  first  of  these  reasons 
is  safety.  Bankers  occupy  a  position  of  great  trust.  Millions  of 
people  throughout  the  country  entrust  a  large  portion  of  their 
wealth  to  the  care  and  custody  of  banks.  The  very  word  "  bank  " 
connotes  security  in  the  minds  of  many  people,  and  therefore 
almost  any  group  of  persons  who  may  open  an  office  which  they 
call  a  bank  will,  through  the  confidence  aroused  by  the  name, 
attract  deposits  from  people  seeking  a  place  of  security  for  surplus 
funds.  It  is  essential,  therefore,  that  public  confidence  in  institu- 
tions called  banks  be  preserved  so  that  people  will  be  encouraged 
to  deposit  their  savings  in  places  where  the  money  will  be  used 
wisely,  thus  counteracting  the  tendency  to  hoard  money  which 
will  be  exposed  to  the  hazards  of  theft,  fire,  and  foolish  specula- 
tion. Hence,  not  only  as  a  matter  of  justice  but  also  as  a  wise 
social  policy,  banks  should  be  subject  to  such  control  as  will 
protect  the  savings  entrusted  to  their  care.  A  bank  failure  ex- 
ercises a  restraining  and  blighting  influence  on  the  economic 
life  of  a  community  for  years  after  its  occurrence.  Unfortunately 
persons  who  occupy  positions  of  trust  are  not  always  absolutely 


6  BANKING  PRACTICE  [I 

honest  and  uniformly  wise.  To  the  customers  of  a  bank  that  has 
failed,  honest  mistakes  are  just  as  costly  as  purposeful  dishonesty. 
The  chief  reason,  then,  for  state  and  federal  regulation  of  the  bank- 
ing business  is  to  insure  its  honest  and  reasonably  efficient  conduct. 

The  Social  Importance  of  Public  Supervision. — The  second 
reason  or  justification  for  government  supervision  rests  on  the 
theory  that  banking  is  a  quasi-public  or  public  service  operation. 
The  bank  is  the  center  about  which  revolves  all  other  business 
It  is  safe  to  say  that  no  business  in  this  country  can  be  carried  on 
without  banking  connections.  The  bank  may  be  used  merely  as 
a  depositary  and  as  a  convenient  agent  to  transfer  funds  from  one 
place  to  another,  or  it  may  be  relied  upon  to  supply  credit  or  to 
furnish  business  and  financial  counsel.  As  a  well-known  Austrian 
economist  has  said,  the  banker  is  the  modern  entrepreneur,  who 
determines  in  a  large  measure  the  course  business  shall  take. 

Since  a  modern  bank  is  so  intimately  related  to  all  forms  of 
economic  activity  and,  by  the  granting  or  withholding  of  credit, 
has  the  power  to  direct  the  course  and  progress  of  industry,  it  is 
important  to  supervise  these  institutions  and  see  that  their  great 
power  is  not  abused.  This  supervision  devolves  upon  the  Comp- 
troller of  the  Currency  and  the  various  state  bank  superin- 
tendents. Banks,  like  any  other  business,  are  organized  by 
private  individuals  for  the  purpose  of  making  a  profit.  It  is  con- 
ceivable that  in  a  particular  instance  the  policy  which  insures 
a  maximum  profit  to  the  banker  may  not  promote  the  general 
welfare.  It  is  likewise  possible  for  groups  of  individuals  to  secure 
control  of  the  powerful  financial  machinery  provided  by  banks 
and  use  it  for  their  ovm  selfish  purposes.  One  of  the  purposes  of 
bank  regulation  is  to  prevent  the  improper  use  of  this  financial 
machinery. 

Preliminaries  to  Organization— Selection  of  Stockholders. — 
In  the  practical  work  of  organizing  a  bank,  certain  preliminary 


I]  ORGANIZING  A  BANK  7 

matters  must  be  disposed  of  before  an  application  is  made  for  a 
charter.  The  first  of  these  is  the  selection  of  the  prospective 
stockholders.  Though  the  idea  prevails  that  bank  shares  are 
offered  for  sale  to  the  public,  like  the  shares  of  other  corporations, 
this  is  not  true  in  all  cases.  In  the  organization  of  the  majority  of 
banks  special  attention  is  given  to  the  selection  of  persons  who 
are  to  be  solicited  to  buy  shares,  because  it  is  expected  that  such 
persons,  by  reason  of  their  social  business  standing,  will  be  of 
value  to  the  new  institution. 

Determination  of  Kind  of  Bank  to  be  Established.— A  second 
preliminary  step  is  the  determination  of  the  kind  of  bank  to  be 
established.  As  before  stated,  the  chartered  banks  are  divided 
into  two  main  groups:  national  and  state  banks.  State  banks 
include  commercial  banks,  savings  banks,  and  trust  companies. 
While  all  such  banks  are  chartered  by  the  state,  each  type  has  its 
peculiar  functions  and  its  special  advantages.  The  kind  of  bank 
to  be  organized  is,  of  course,  largely  determined  by  the  nature  of 
the  community.  For  example,  if  a  new  bank  were  to  be  estab- 
lished in  a  town  of  i,ooo  people,  it  might  be  disadvantageous  if 
not  impossible  to  secure  a  capital  of  $25,000,  the  minimum 
amount  for  the  establishment  of  a  national  bank.  If  this  re- 
quirement precluded  the  organization  of  a  national  bank  in  a 
small  community,  the  alternative  would  be  to  organize  under  the 
state  charter  provided  the  state  laws  allowed  banks  to  be  estab- 
lished with  the  amount  of  capital  available.  Before  the  recent 
amendments  to  the  National  Bank  Act  made  it  possible  for 
national  banks  to  lend  money  on  real  estate  security,  it  would 
have  been  questionable  policy  in  many  cases  to  organize  a  na- 
tional bank  in  an  agricultural  community  where  loans  are  largely 
based  on  farm  mortgages.  Inasmuch  as  national  banks  were  for- 
bidden to  loan  money  on  real  estate  security,  the  chief  source  of 
profit  for  a  rural  national  bank  was  cut  off — a  handicap  not  en- 
countered by  a  state-chartered  institution. 


8  BANKING  PRACTICE  [I 

Other  privileges  may  also  be  available  to  banks  of  one  tj^e 
and  not  open  to  banks  of  another  type;  or  legal  regulations  may 
impose  serious  handicaps  on  certain  kinds  of  banking  institutions. 
Thus,  some  states  may  permit  a  lower  capitalization  for  state 
banks  than  is  required  by  federal  law  for  national  banks,  but  the 
reserve  requirements  may  be  higher  for  the  state  banks.  Or 
savings  banks  may  have  the  privilege  of  requiring  30  or  60  days' 
notice  of  intent  to  withdraw  money  on  deposit  with  them,  where- 
as the  commercial  banks  are  required  to  meet  withdrawals  on 
demand.  On  the  other  hand,  savings  banks  may  be  and  often 
are  more  strictly  limited  as  to  their  range  of  investment  than  are 
commercial  banks.  Trust  companies,  the  characteristic  functions 
of  which  are  to  act  as  guardian,  administrator,  executor,  and 
trustee  for  individuals,  and  as  fiscal  agents  for  large  corporations, 
cannot  usually  find  enough  business  purely  of  this  nature  to  make 
it  worth  while  for  them  to  operate  strictly  as  trust  companies 
anywhere  except  in  the  larger  centers.  In  smaller  communities 
such  companies  commonly  do  a  commercial  banking  business  in 
addition  to  their  trust  work.  Thus,  the  business  habits  of  a  com- 
munity, the  kind  of  banking  competition  to  be  faced,  and  the 
relative  advantages  of  incorporation  under  different  laws,  are 
matters  that  must  be  considered  before  an  application  is  made 
for  a  charter. 

The  Amount  of  the  Capital. — A  third  step  preliminary  to  the 
application  for  a  charter  is  the  determination  of  the  amount  of 
the  new  bank's  capital.  Within  certain  specified  limits  a  bank 
can  be  capitalized  at  any  figure  desired.  In  the  case  of  state 
banks  the  capital  requirements  vary  with  the  laws  in  each  state. 
In  most  states  no  banks  are  chartered  with  a  capital  of  less  than 
$10,000,  and  in  many  states  the  minimum  is  higher.  It  is  the 
general  practice  to  base  the  minimum  capital  on  population,  and 
the  requirements  for  national  banks  are  uniform  throughout  the 
country.    No  national  bank  may  be  established  with  a  smaller 


1]  ORGANIZING  A  BANK  9 

capital  than  $25,000,  and  such  minimum  prevails  only  in  places 
with  a  population  of  3,000  or  less.  With  a  population  of  more 
than  3,000  and  less  than  6,000  the  minimum  capital  is  $50,000; 
of  more  than  6,000  and  less  than  50,000  the  minimum  is  $100,000; 
and  for  all  places  having  more  than  50,000  inhabitants,  the 
minimum  is  $200,000. 

A  bank  may  capitalize  at  whatever  figure  seems  advantageous 
above  the  minimum  requirements.  In  determining  the  amount 
three  considerations  prevail:  first,  the  bank  desires  the  capital 
necessary  to  handle  its  business  in  a  way  to  meet  the  competition 
of  existing  banks;  secondly,  the  capital  should  be  limited  to  an 
amount  that  can  be  conveniently  and  safely  invested  in  opera- 
tions in  its  community;  and  thirdly,  the  amount  should  be  a  sum 
that  can  be  raised  in  the  community. 

Method  of  Applying  for  a  Charter.— After  these  preliminaries 
have  been  completed,  the  organizers  of  a  bank  can  apply  for  a 
charter.  The  requirements  of  all  states  conform  fairly  closely 
with  the  procedure  followed  in  obtaining  a  charter  under  the 
National  Bank  Act,  and  therefore  it  will  be  sufficiently  informa- 
tive to  outline  the  manner  in  which  a  charter  for  a  national  bank 
is  obtained. 

The  application  for  a  national  charter  to  carry  on  the  banking 
business  must  be  made  to  the  Comptroller  of  the  Currency  in 
Washington.  At  least  five  natural  persons  make  appHcation  as 
incorporators.  The  term  "natural  person "  discriminates  against 
corporations  or  joint-stock  companies.  While,  however,  corpora- 
tions may  not  be  incorporators,  there  is  nothing  to  prevent  them 
from  holding  a  bank's  stock  if  such  ownership  is  not  prohibited 
by  the  state  laws  under  which  the  bank  is  incorporated. 

Although  not  legally  necessary,  it  is  frequently  the  practice, 
on  the  organization  of  a  bank,  to  circulate  a  subscription  paper  in 
special  form  suggested  by  the  Comptroller.  Such  a  paper  sets 
forth  the  fact  that  the  signers  have  subscribed  for  the  number  of 


lO  BANKING  PRACTICE  (I 

shares  indicated  therein  and  intend  to  apply  for  a  charter  under 
the  laws  of  the  United  States  for  the  right  to  establish  a  bank 
with  a  capital  stock  of  a  specified  amount.  Each  shareholder 
signs  the  paper  giving  his  address,  occupation,  his  net  financial 
worth,  and  the  number  of  his  shares.  Every  shareholder  is  as- 
sumed to  be  worth  at  least  double  the  amount  of  his  subscription, 
for  the  reason  that  shareholders  in  national  banks  (and  in  the 
banks  chartered  by  many  states  as  well)  are  liable  in  case  of  the 
bank's  insolvency  for  an  additional  amount  equal  to  their  sub- 
scription. 

The  Application  Form — Contents.— At  least  five  shareholders 
must  sign  the  application  for  a  charter  to  the  Comptroller  of  the 
Currency,  and  the  application  must  be  indorsed  by  thret  promi- 
nent persons,  preferably  public  officials.  The  document  states 
the  intention  of  the  signatories  to  organize  a  national  bank  under 
the  title  specified,  and  designates  the  location,  the  amount  of  the 
capital  stock,  and  the  population  of  the  town  where  the  bank  is  to 
be  located;  it  requests  that  the  title  applied  for  be  reserved  for  a 
period  of  60  days  and  that  organization  blanks  and  instructions 
be  sent  to  the  person  whose  name  is  indicated.  Space  is  left  on 
the  blank  form  in  which  to  inform  the  Comptroller  if  any  of  the 
applicants  have  been  previously  connected  with  a  banking  in- 
stitution, and,  if  so,  its  name,  for  what  period,  and  in  what 
capacity. 

Before  giving  his  approval  to  any  application,  the  Comptroller 
publishes  the  fact  that  application  has  been  made  for  a  charter 
for  such  bank,  and  he  refers  each  case  to  a  member  of  Congress 
from  the  district  in  which  the  bank  proposes  to  locate.  He  also 
refers  the  application  to  the  local  national  bank  examiner  and  the 
local  state  bank  supervisor  for  additional  information  as  to  the 
standing  of  the  applicants,  the  need  for  a  new  bank  in  the  locality, 
and  the  prospects  of  success.  He  seeks  to  assure  himself  that  the 
demand  for  the  new  institution  emanates  from  the  business  in- 


I]  ORGANIZING  A  BANK  II 

terests  of  the  community  and  not  from  outside  promoters  who 
are  desirous  merely  of  obtaining  a  ])rolit  from  the  work  of  or- 
ganization. In  considering  the  title  of  the  bank,  the  Comptroller 
seeks  to  prevent  duplication  and  confusion.  The  title  "First 
National  Bank,"  for  example,  will  not  be  granted  to  any  other 
bank  if  there  is  a  national  bank,  no  matter  what  its  name,  already 
in  existence  in  the  community.  Furthermore,  the  use  of  a  title 
similar  to  that  of  any  other  state  or  national  bank  in  the  com- 
munity is  not  permitted. 

Organization  Papers. — After  the  title  has  been  approved,  the 
Comptroller  forwards  a  number  of  blank  organization  papers 
with  instructions  for  their  use.  These  papers  include  the 
following: 

1.  Articles  of  association,  or  incorporation. 

2.  The  organization  certificate. 

3.  A  blank  for  the  oaths  of  the  directors. 

4.  A  blank  for  the  signature  of  officers. 

5.  Model  by-laws. 

6.  A  certificate  as  to  payment  of  capital  stock. 

7.  An  order  for  notes  for  circulation  purposes. 
Each  of  these  documents  will  be  briefly  described  below. 

Articles  of  Incorporation. — The  articles  of  incorporation  give 
information  regarding  the  following  items: 

1.  The  title  of  the  banking  association. 

2.  The  town  where  the  banking  office  is  to  be  located. 

3.  The  number  of  directors  to  be  chosen  and  the  place  of 

first  meeting  for  their  election. 

4.  The  provision  made  for  regular  annual  meetings. 

5.  A  statement  as  to  the  total  capital  stock  and  number  of 

shares,  with  the  provision  for  increasing  the  capital  at 
any  subsequent  time. 

6.  An  outline  of  the  powers  of  directors. 


12  BANKING  PRACTICE  [I 

7.  A  statement  as  to  the  life  tenure  of  the  association. 

8.  The  provision  made  for  the  amendment  of  the  articles. 

These  articles  of  association  must  be  signed  by  at  least  five 
natural  persons. 

Organization  Certificate.— The  next  important  blank  to  be 
filled  out  is  the  organization  certificate.  This  contains  informa- 
tion regarding: 

1.  The  name  of  the  association. 

2.  The  place  where  the  operations  of  discount  and  deposit 

are  to  be  carried  on,  including  the  state,  territory,  or 
district,  and  the  county,  city,  town  or  village. 

3.  The  amount  of  the  capital  stock  and  the  number  of  shares. 

4.  The  names  and  places  of  residence  of  all  shareholders  and 

the  number  of  shares  held  by  each. 

5.  The  fact  that  the  certificate  is  made  to  enable  the  signers 

to  avail  themselves  of  the  advantages  of  the  National 
Bank  Act. 

Every  share  must  be  allotted  when  the  organization  certificate 
is  executed,  and  the  certificate  must  be  signed  by  the  same  persons 
who  sign  the  articles  of  association,  and  must  be  acknowledged 
before  a  judge  or  notary  public.  After  the  articles  of  associa- 
tion and  the  organization  certificate  have  been  executed  and 
filed  with  the  Comptroller,  the  association  becomes  a  corporate 
body  from  the  date  of  the  execution  of  the  organization  certificate. 

Directors'  Oath  of  Office. — A  third  blank  to  be  filled  out 
contains  the  oaths  of  the  directors.  Each  director  makes  oath 
that  he  will  administer,  diligently  and  honestly,  the  afi'airs  of  the 
bank  which  are  entrusted  to  him,  that  he  is  the  owner  in  good 
faith  and  in  his  own  right  of  the  required  number  of  shares,  and 
that  these  shares  are  not  hypothecated  or  pledged  in  any  manner 
as  security  for  debt. 


I]  ORGANIZING  A  BANK  13 

Signatures  of  Officers. — The  articles  of  association  may- 
designate  merely  the  time  and  place  for  electing  the  first  board  of 
directors,  or  the  directors  may  be  appointed  and  their  names 
indicated  in  the  articles.  Along  with  these  papers  must  be  sent 
the  blank  which  contains  the  official  signatures  of  the  officers. 
Space  is  provided  for  the  signature  of  each  officer,  the  date  of  his 
election  or  appointment,  and  the  name  of  his  predecessor. 

Model  By-Laws. — The  Comptroller  sends  to  each  new  bank 
copies  of  model  by-laws.  The  bank  may  accept  these,  modifying 
them  to  suit  its  wishes,  or  may  draw  up  its  own  form  of  by-laws, 
so  long  as  it  includes  one  or  two  provisions  which  the  Comptroller 
insists  be  found  in  all  such  by-laws.  As  a  matter  of  practice  most 
banks  adopt  the  by-laws  already  prepared  by  the  Comptroller. 

Stock  Payment  Certificate. — Another  official  paper  connected 
with  the  organization  is  a  certificate  declaring  that  the  legal  re- 
quirement has  been  met  for  the  payment  of  50  per  cent  of  the 
capital  stock  before  beginning  business,  and  that  all  other  pro- 
visions necessarily  antecedent  to  beginning  business  have  been 
complied  with.  After  the  organization  papers  have  been  ap- 
proved, an  examination  at  the  expense  of  the  bank  is  made  to 
satisfy  the  Comptroller  that  all  legal  requirements  have  been  met. 
If  the  examination  is  satisfactory,  a  certificate  of  authority  to 
begin  business  is  forwarded  to  the  bank.  This  certificate  must  be 
printed  for  60  days  in  a  newspaper  published  in  the  city  or  county 
in  which  the  bank  is  located. 

Bank  Note  Order  Blank. — The  final  official  document  sent  to 
the  association  by  the  Comptroller  is  the  order  blank  for  circu- 
lating notes.  Formerly  every  national  bank  was  compelled  to 
buy  a  specified  quantity  of  government  bonds,  the  securities 
serving  as  the  basis  for  its  own  note  issues.  This  compulsory 
purchase  of  bonds  that  pay  only  2  per  cent  interest  made  it  neces- 


14  BANKING  PRACTICE  [I 

sary  for  the  bank  to  secure  a  larger  return  on  the  money  thus 
invested,  by  taking  out  circulation  and  lending  such  circulating 
notes  at  the  market  rate  of  interest. 

Since  the  passage  of  the  Federal  Reserve  Act,  it  is  no  longer 
necessary  for  a  bank  to  buy  government  bonds.  If,  however,  it 
wishes  to  make  use  of  the  circulation  privilege,  the  same  require- 
ment still  prevails,  namely,  that  bonds  must  be  purchased  and 
deposited  with  the  Treasurer  of  the  United  States.  Notes  may 
then  be  issued  up  to  either  the  par  value  or  the  market  value  of 
the  bonds  owned,  the  limit  being  the  lower  of  the  two  values. 

If  a  bank  desires  to  take  out  circulation,  it  may  deposit  bonds 
for  this  purpose  to  an  amount  not  exceeding  its  capital  stock.  In 
any  case  the  minimum  amount  of  bonds  that  may  be  purchased 
if  the  bank  wishes  to  exercise  the  circulation  privilege,  is  specified. 
If  the  amount  of  the  capital  stock  is  $150,000  or  less,  bonds  must 
be  purchased  to  the  extent  of  one-fourth  of  the  capital;  if  the 
capital  is  more  than  $150,000,  bonds  must  be  purchased  to  the 
extent  of  at  least  $50,000.  If  the  new  bank  fills  out  the  order  for 
notes,  it  specifies  the  denomination  of  notes  it  desires,  and  agrees 
to  pay  the  cost  of  preparing  the  dies  for  engraving.  After  the 
notes  have  been  printed  they  are  forwarded  to  the  bank  to  be 
signed  by  the  president  and  cashier  before  their  issuance.  It  has 
been  held  that  if  a  bank  is  willing  to  assume  responsibility  for  the 
redemption  of  its  notes,  it  is  immaterial  whether  they  be  actually 
signed  by  the  officers  or  have  the  signatures  merely  lithographed 
or  stamped  thereon  with  a  rubber  stamp. 

In  addition  to  the  above  requirements,  every  national  bank 
must,  before  commencing  business,  subscribe  an  amount  equal 
to  6  per  cent  of  its  total  capital  and  surplus  to  the  stock  of  the 
federal  reserve  bank  of  its  district.  On  this  it  receives  cumula- 
tive dividends  of  6  per  cent  a  year. 

Issuance  and  Transfer  of  Stock. — The  association  is  now 
prepared  to  begin  business.    Its  capital  stock  may  be  increased 


I]  ORGANIZING  A  BANK  15 

at  any  time  and  to  any  amount  if  authorized  by  two-thirds  of  the 
shares  of  the  bank  and  with  the  approval  of  the  Comptroller. 
The  shares  may  be  paid  for  in  instalments,  the  requirement  being 
that  at  least  50  per  cent  of  each  shareholder's  subscription  must 
be  paid  in  before  the  bank  begins  business,  the  balance  being  pay- 
able 10  per  cent  monthly.  After  the  first  instalment  is  paid,  each 
shareholder  is  given  a  temporary  receipt;  and  when  payment  in 
full  has  been  completed,  a  certificate  indicating  the  number  of 
shares  purchased  is  issued.  Records  of  the  certificates  issued  are 
kept  in  the  stock  certificate  book  and  on  the  stock  transfer  ledger. 
Great  care  is  taken  to  see  that  no  unauthorized  certificate  is 
issued,  and  the  total  par  value  of  certificates  outstanding  must 
never  exceed  the  total  amount  of  the  capital  stock. 

When  the  stockholder  desires  to  transfer  his  shares  to  another 
person,  his  certificate  is  surrendered,  canceled,  and  attached  to 
the  stub  to  which  it  belongs  in  the  stock  certificate  book,  and  a 
new  certificate  or  certificates  for  the  same  total  number  of  shares 
is  issued.  The  stub  bearing  the  number  corresponding  to  that  of 
the  new  certificate  issued  is  filled  out  as  a  record  of  the  transaction. 

Privileges  Granted  by  the  Charter. — The  completion  of  the 
formalities  described  above  enables  the  new  bank  to: 

1.  To  adopt  and  use  a  corporate  seal. 

2.  To  have  a  corporate  life  of  twenty  years. 

3.  To  make  contracts. 

4.  To  sue  and  be  sued. 

5.  To  elect  and  appoint  directors  and  officers. 

6.  To  adopt  by-laws. 

7.  To  exercise  such  incidental  powers  and  functions  as  are 

necessary  to  carry  on  the  banking  business.    ■ 

The  incidental  powers  just  mentioned  include:  discounting 

promissory  notes,  drafts,  bills  of  exchange,  and  other  evidence  of 

debt;  receiving  deposits;  buying  and  selling  exchange,  coin,  and 

bullion;  loaning  money  on  personal  security;  obtaining  and  cir- 


I6  BANKING  PRACTICE  [I 

culating  notes;  acting,  if  permitted  by  the  Federal  Reserve  Board, 
as  trustee,  executor,  administrator,  or  registrar  of  stock  and 
bonds;  and  establishing  foreign  branches.  The  last  function  is 
permitted  only  to  a  bank  possessing  a  capital  and  surplus  of 
$1,000,000  or  more,  after  the  consent  of  the  Federal  Reserve 
Board  has  been  obtained.  Under  the  same  conditions,  a  bank 
may  also  invest  in  the  stock  of  corporations  engaged  in  foreign 
banking,  provided  the  sum  invested  does  not  exceed  10  per  cent 
of  its  paid-in  capital  and  surplus.  The  Federal  Reserve  Act  also 
authorizes  national  banks  to  accept  drafts  or  bills  of  exchange 
drawn  upon  them  under  certain  conditions,  provided  these  drafts 
are  based  upon  transactions  involving  the  exportation  or  impor- 
tation of  goods,  or  are  drawn  to  create  dollar  exchange. 


CHAPTER   II 
MANAGING  THE  BANK 

The  Bank  Managers. — The  management  of  a  bank  may  be 
the  more  conveniently  discussed  from  two  points  of  view:  that 
of  its  personnel  or  machinery  of  management,  and  that  of  its 
problems  of  management.  The  managerial  machinery  consists 
of  the  directors,  the  officers,  and  the  heads  of  departments  and 
divisions. 

Theoretically,  though  not  always  in  actual  practice,  the  man- 
agement of  a  bank  is  vested  in  its  owners — in  the  case  of  a  state 
or  national  bank — the  stockholders.  If  things  do  not  go  as  well 
as  the  stockholders  desire,  they  may  assume  control  and  choose 
a  new  group  of  directors  and  officials.  However,  in  the  majority 
of  cases  the  management  of  the  bank  is  left  entirely  in  the  hands 
of  the  directors  and  the  officials  chosen  by  them.  The  directors 
are  the  representatives  of  the  shareholders  by  and  from  whom 
they  are  chosen.  They  are  elected  at  the  annual  meeting  of  the 
stockholders  which  must  be  held  some  time  during  January.  The 
Comptroller  of  the  Currency  has  expressed  his  preference  for  the 
second  Tuesday  in  January. 

Number  and  Qualifications  of  Directors.— National  banks  are 
required  to  have  a  board  of  not  less  than  five  members,  but  no 
maximum  number  is  fixed.  The  by-laws  must  specify  the  maxi- 
mum and  minimum  numbers.  In  the  larger  cities  it  is  preferable 
to  have  a  larger  number  for  the  purposes  of  distributing  the 
burden  of  administration,  of  securing  a  representative  board, 
and  of  enlarging  the  possibilities  of  obtaining  business  by 
means  of  the  close  personal  interest  devoted  to  the  bank's  wel- 
fare by  a  considerable  number  of  men.  Directors  are  elected 
2  17 


l8  BANKING  PRACTICE  [II 

for  a  term  of  one  year  and  until  their  successors  are  elected  and 
qualified. 

Every  director  of  a  national  bank  must,  during  his  whole  term 
of  office,  be  a  citizen  of  the  United  States.  Three-fourths  or  more 
of  the  members  of  the  board  must  have  resided  for  at  least  one 
year  immediately  preceding  their  election  in  the  state,  territory, 
or  district  in  which  the  bank  is  located,  and  they  must  be  resi- 
dents therein  during  their  continuance  in  ofRce.  These  residential 
and  citizenship  qualifications  insure  local  control  of  the  bank. 

Every  director  must  possess  in  his  own  right  and  free  from 
debt  at  least  ten  shares  of  stock  of  the  bank  unless  the  capital 
does  not  exceed  $25,000,  in  which  case  he  must  own  not  less  than 
five  shares.  Any  director  who  ceases  to  be  the  owner  of  the  re- 
quired number  of  shares  or  who  becomes  disqualified  in  any  other 
manner,  automatically  vacates  his  office.  No  person  who  holds 
stock  in  a  merely  representative  capacity  as  trustee,  executor, 
administrator,  or  guardian  can  be  a  director.  The  purpose  of 
these  property  qualifications  is  to  give  the  directors  a  personal 
interest  in  the  successful  management  of  the  bank. 

Interlocking  Directorates. — Formerly  it  was  legal  for  wealthy 
and  powerful  financiers  to  serve  on  the  boards  of  a  number  of 
banks.  From  the  standpoint  alike  of  the  bank  and  of  the  public, 
this  custom  had  some  advantages  and  disadvantages.  The  chief 
advantage  was  that  each  of  such  banks  had  the  benefit  of  the 
judgment,  experience,  and  wide  observation  of  men  who  were 
closely  in  touch  with  business  afTairs  on  a  large  scale.  The  chief 
disadvantage  was  the  danger  that  men  in  a  position  to  influence 
the  actions  of  a  number  of  important  financial  institutions  might 
use  their  power  for  their  own  advantage  and  to  the  detriment  of 
others.  As  a  result  of  the  widespread  agitation  against  trusts  and 
similar  large  business  combinations,  legislation  has  been  enacted 
which  seeks  to  prevent  the  danger  of  the  domination  of  a  large 
number  of  banks  by  a  few  individuals. 


II]  MANAGING  THE  BANK  I9 

Restrictions  Imposed  by  Clayton  Act. — The  Clayton  Act  of 
1914  provides  that  no  person  shall  be  at  the  same  time  a  director 
or  other  officer  or  employee  of  more  than  one  member  bank  of  the 
federal  reserve  system  if  such  a  bank  has  deposits,  capital,  surplus, 
and  undivided  profits  aggregating  more  than  $5,000,000.  No 
private  banker  or  person  who  is  a  director  in  any  state  bank 
having  deposits,  capital,  surplus,  and  undivided  profits  aggre- 
gating more  than  $5,000,000,  is  eligible  to  be  a  director  in  any 
member  bank  of  the  system.  No  member  bank  in  a  city  of  more 
than  200,000  inhabitants  may  have  as  a  director  or  other  officer 
or  employee  any  private  banker  or  any  director  or  other  officer  or 
employee  of  any  other  bank,  banking  association,  or  trust  com- 
pany located  in  the  same  place,  with  the  following  exceptions: 
first,  this  prohibition  does  not  apply  to  mutual  savings  banks 
without  capital  stock;  secondly,  a  director  or  other  officer  or 
employee  of  such  bank,  banking  association,  or  trust  company  may 
be  a  director  or  other  officer  or  employee  of  not  more  than  one  other 
bank  or  trust  company  organized  under  federal  or  state  law,  where 
the  entire  capital  stock  of  one  bank  is  owned  by  the  stockholders 
of  the  other  bank;  thirdly,  a  director  of  class  A  of  the  federal 
reserve  bank  may  be  an  officer  or  director  in  one  member  bank. 

Modifications  of  the  Clayton  Act. — The  Clayton  Act  was 
modified  by  the  Kern  amendment  in  1916.  This  permits  any 
officer,  director,  or  employee  of  any  member  bank,  or  a  class  A 
director  of  a  federal  reserve  bank,  if  he  first  obtains  the  consent 
of  the  Federal  Reserve  Board,  to  be  an  officer,  director,  or  em- 
ployee in  not  more  than  two  other  banks,  banking  associations,  or 
trust  companies  whether  they  are  national  or  state  institutions, 
provided  that  such  other  bank,  banking  association,  or  trust 
company  is  not  in  substantial  competition  with  such  member 
bank.  The  Federal  Reserve  Board  is  authorized  to  grant  or 
withhold  such  consent,  and  it  possesses  the  authority  to  define 
what  constitutes  substantial  competition. 


20  BANKING  PRACTICE  [II 

Another  amendment  permits  any  director  or  other  officer, 
agent,  or  employee  of  any  member  bank,  with  the  consent  of  the 
Federal  Reserve  Board,  to  be  a  director  or  other  officer  or  em- 
ployee of  any  bank  or  corporation  chartered  under  federal  or 
state  law  and  personally  engaged  in  international  or  foreign  bank- 
ing, or  banking  in  any  dependency  or  insular  possession  of  the 
United  States,  in  the  capital  stock  of  which  bank  or  corporation 
the  member  bank  has  invested  as  allowed  by  law. 

The  Edge  Act  repeats  the  substance  of  this  amendment  in 
that  it  permits  officers,  directors,  and  employees  of  member  banks 
to  become  affiliated,  given  the  consent  of  the  Federal  Reserve 
Board,  with  a  corporation  authorized  under  the  act,  provided  the 
member  bank  is  itself  a  stockholder  in  such  corporation.  The 
law  was  still  further  amended  in  191 7  when  it  was  provided  that 
state  banks  becoming  members  of  the  federal  reserve  system  may 
continue  to  exercise  their  full  charter  and  statutory  rights  as 
state  banks  or  trust  companies.  This  amendment  exempts  such 
banks  from  certain  provisions  of  the  Clayton  Act. 

Directors*  Authority  and  Compensation. — A  director  is  not  an 
agent  of  the  bank.  He  cannot  act  separately  and  independently 
of  his  fellow  members ;  only  when  the  board  is  duly  convened  and 
acting  as  a  unit  can  his  wishes  influence  its  action.  A  majority 
of  the  board  usually  constitutes  a  quorum,  but  the  number  is 
determined  specifically  by  the  charter  provisions.  The  board  is 
presumed  to  meet  at  frequent  intervals  to  determine  the  bank's 
policy.  The  Comptroller  requires  that  meetings  be  held  at  least 
once  a  month,  though  in  most  banks  meetings  are  held  weekly  or 
even  more  frequently. 

While  directors  serve  nominally  without  salary,  it  is  custom- 
ary to  give  them  a  fee  for  each  meeting  attended.  This  fee  is  in- 
tended to  be  in  partial  compensation  for  the  loss  of  time  from 
their  own  businesses.  No  director,  officer,  or  employee  of  a  bank 
may  be  the  beneficiary  of,  or  receive  directly  or  indirectly,  any 


II]  MANAGING  THE  BANK  21 

fee,  commission,  gift,  or  other  consideration  for  or  in  connection 
with  any  business  of  the  bank,  other  than  the  usual  reasonable 
salary  or  director's  fee. 

The  Selection  and  Functions  of  the  Board. — In  choosing 
directors  various  factors  are  considered.  The  largest  stockholders 
may  be  elected  on  the  assumption  that  large  shareholdings  will 
induce  such  men  to  take  a  keen  interest  in  the  success  of  the  bank. 
Men  of  influence  in  a  community  or  of  large  capital  and  impor- 
tant business  connections  are  frequently  elected  because  it  is  as- 
sumed that  they  will  bring  the  bank  considerable  business. 
Above  all  it  is  important  that  the  directors  be  men  of  clean  fi- 
nancial record  and  that  they  be  endowed  with  conservative  busi- 
ness sense  and  sound  judgment. 

The  board  exercises  general  control  over  all  the  affairs  of  the 
bank,  and  with  a  few  restrictions  can  do  anything  the  corporation 
can  do  under  its  charter.  The  functions  of  directors  are  largely 
determined  by  the  needs  in  each  case.  Members  of  the  board 
are  presumed  to  know  what  is  done  in  the  bank  and  the  method 
of  carrying  on  the  business.  They  may  appoint  agents  and  give 
them  sufficient  power  to  execute  the  will  of  the  board  and  to 
carry  on  the  ordinary  transactions  of  business.  Any  such  delega- 
tion of  power  does  not  divest  the  directors  of  their  responsibility; 
they  may  be  held  for  losses  arising  through  the  acts  of  officers  and 
employees  who  have  not  acted  in  good  faith  or  with  ordinary 
diligence. 

Liability  of  Directors. — Directors  are  regarded  as  trustees  for 
the  stockholders,  depositors,  and  note-holders.  The  courts  have 
insisted  that  the  actions  of  the  directors  be  free  from  suspicion 
and  blame,  and  have  prohibited  them  from  acting  in  cases  where 
self-interest  may  bias  them.  A  director  may  not  acquire  any 
interest  adverse  to  the  bank  of  which  he  is  a  director;  nor  may  he 
secure  by  means  of  his  position  any  advantage  not  open  to  the 


22  BANKING  PRACTICE  [II 

other  stockholders.  If,  for  example,  he  applies  for  a  loan  he  must 
make  application  just  as  any  other  borrower,  and  he  must  not 
vote  on  the  approval  of  his  application. 

Directors  can  use  the  funds  and  property  of  the  bank  only  for 
proper  banking  functions  and  for  the  bank's  advantage  in  the 
best  manner  that  their  knowledge  and  ability  can  devise.  They 
cannot  vote  to  contribute  to  charities  or  to  make  gifts.  They  are 
liable  for  losses  to  stockholders  or  creditors  or  both  if  incurred, 
because  they  as  directors  failed  to  manage  the  bank  according  to 
the  charter  and  in  good  faith.  They  are  not  liable  for  losses 
arising  through  frauds  of  officers,  provided  they  themselves  have 
not  been  grossly  negligent  in  the  selection  and  supervision  of  the 
bank's  officials. 

In  keeping  with  their  responsibility,  the  directors  of  a  bank 
exercise  more  personal  control  over  their  corporation  than  is 
usually  exercised  by  the  directors  in  any  other  type  of  business 
organization.  The  Comptroller  of  the  Currency  has  from  time 
to  time  made  a  special  effort  to  have  the  directors  actually  direct 
the  affairs  of  their  bank.  In  the  larger  banks  every  loan  is  scru- 
tinized by  the  whole  board  or  by  a  special  committee  appointed 
for  that  purpose. 

The  Officers  of  the  Bank. — The  officers  of  a  bank  vary  from  a 
president,  vice-president,  and  cashier  in  small  banks,  to  a  much 
greater  number  in  the  larger  banks.  For  example,  a  large  New 
York  bank  may  have  a  chairman  of  the  board  of  directors;  a 
president;  several  executive  managers,  one  of  whom  is  designated 
general  executive  manager;  a  number  of  vice-presidents;  a  comp- 
troller, cashier,  and  a  number  of  assistant  vice-presidents  and 
assistant  cashiers. 

The  President — His  Work  and  Responsibility. — The  presi- 
dent of  a  national  bank  is  chosen  by  the  board  of  directors  from 
its  members.    His  primary  function  is  to  preside  over  the  meet- 


II]  MANAGING  THE  BANK  2$ 

ings  of  the  board,  tut  in  addition  he  frequently  participates  in  the 
active  management  of  the  bank.  When  the  chairman  of  the 
board  and  the  president  are  distinct  persons,  the  former  performs 
the  duty  of  presiding  over  the  board  meetings,  while  the  latter 
serves  as  the  manager  of  the  bank.  So  far  as  managerial  powers 
go,  the  position  of  the  president  is  one  of  indefinite  responsibility 
rather  than  of  definite  limits.  He  is  generally  the  court  of  last 
resort  in  determining  matters  of  policy  when  the  board  of  direc- 
tors is  not  in  session,  and  because  of  his  intimate  contact  with  the 
bank's  affairs  his  opinion  and  judgment  frequently  determine  the 
line  of  action  of  the  board. 

In  very  large  banks  the  work  and  responsibility  of  adminis- 
tration are  so  hea\y  that  it  would  be  impossible  or  undesirable 
for  one  man  to  assume  the  whole  burden.  Therefore  a  number  of 
executive  managers  are  sometimes  chosen  from  among  the  vice- 
presidents,  and  one  of  them  may  be  designated  general  executive 
manager.  To  these  men  of  wide  experience  and  close  knowledge 
of  banking  technique  are  delegated  the  problems  arising  in  con- 
nection with  the  actual  operation  of  the  bank. 

Duties  of  the  Vice-Presidents,  etc. — The  vice-presidents  in  a 
large  bank  are  usually  men  who  are  experts  in  banking  or  in  some 
other  lines  of  business,  and  their  duties  consist  in  handlmg  ad- 
ministrative problems  arising  within  their  particular  fields.  For 
administrative  purposes,  it  is  a  common  practice  to  divide  the 
business  of  the  bank  into  portions,  each  of  which  is  under  the 
control  of  a  vice-president.  In  a  certain  large  bank,  for  example, 
the  unit  of  administration  is  the  territory.  The  domestic  terri- 
tory is  divided  on  the  basis  of  the  federal  reserve  districts,  and 
the  foreign  territory  according  to  groupings  of  contiguous  coun- 
tries. To  maintain  close  personal  touch  with  customers,  all  the 
business  of  a  particular  territory  is  administered  by  a  vice-presi- 
dent assisted  by  the  necessary  number  of  assistant  vice-presidents 
and  assistant  cashiers.     Each  vice-president  is  responsible  for 


24  BANKING  PRACTICE  [it 

maintaining  and  extending  the  business  in  his  territory.  He  con- 
trols the  resident  representatives  of  the  bank,  in  the  domestic 
field,  and  through  them  increases  its  business  and  obtains  credit 
information.  In  the  foreign  territory  he  controls  the  branches 
and  agencies  of  the  bank.  Subject  to  review  by  a  general  meeting 
of  the  officers  and  directors,  each  vice-president  passes  upon  all 
applications  for  loans  and  for  lines  of  credit  arising  in  his  territory. 
In  addition  to  the  vice-presidents  in  charge  of  territories, 
there  are  other  vice-presidents,  assistant  vice-presidents,  and 
assistant  cashiers  who  are  charged  with  the  administration  of 
certain  operating  departments,  as  for  example,  the  foreign  ex- 
change department,  the  credit  department,  the  trust  and  pub- 
licity departments. 

The  Comptroller;  the  Cashier. — In  banks  where  a  distinction 
is  made  between  the  comptroller  and  the  cashier,  the  comptroller 
is  usually  in  charge  of  the  accounting  and  auditing  work  of  the 
bank,  while  the  cashier  is  the  chief  officer  in  direct  charge  of  the 
banking  operations  including  the  supervision  of  the  personnel  and 
its  organization.  This  personnel  includes  not  only  the  employees 
engaged  in  the  various  phases  of  the  banking  business,  but  also 
the  force  of  cleaners,  carpenters,  machinists,  policemen,  and  chefs, 
if  any. 

Departments  and  Divisions. — In  the  work  of  managing  the 
bank  certain  departments  and  divisions  are  created,  as  conditions 
warrant,  to  supplement  the  work  of  the  officers.  For  example,  a 
department  known  as  the  organization  department  is  sometimes 
created  to  assist  the  cashier.  Its  chief  function  is  to  study  the 
bank's  departmental  organization  with  a  view  to  making  improve- 
ments, and  to  watch  the  personnel  for  the  purpose  of  discovering 
those  who  merit  promotion.  Furthermore,  each  major  operation 
of  the  bank,  such  as  receiving,  paying,  collecting,  and  extending 
credit,  is  organized  as      department  with  its  own  head  and  the 


II]  MANAGING  THE  BANK  25 

requisite  number  of  assistant  department  heads.  Related  de- 
partments are  grouped  together  into  divisions,  each  of  which  is 
supervised  by  a  division  head.  Through  the  organization  de- 
partment the  division  heads  are  responsible  to  the  cashier  for 
matters  of  operating  procedure  referred  to  them  by  department 
heads.  In  addition,  they  have  charge  of  the  personnel  of  their 
divisions.  At  regular  intervals  a  meeting  of  the  division  heads 
may  be  held  by  the  organization  department  for  the  purpose  of 
considering  improvements  in  organization  and  general  operating 
methods. 

The  Problems  of  Bank  Management. — Bank  management 
covers  an  infinity  of  detail,  but  the  main  problems  may  be  grouped 
for  convenience  of  discussion  as  follows: 

1 .  Obtaining  new  business. 

2.  The  analysis  of  accounts  to  determine  which  accounts 

are  desirable  and  which  are  undesirable. 

3.  The  procurement  of  statistical  information  required  for 

the  efficient  conduct  of  the  business. 

4.  The  management  of  the  personnel  of  the  bank. 

5.  Provision  for  the  education  and   training  of  men  for 

banking. 

6.  Procurement  of  legal  information. 

7.  The  study  of  methods  by  which  the  bank  may  serve  its 

customers. 

8.  Checking  up  and  handling  in  an  economical  manner  the 

supplies  used  in  the  bank. 
The  more  important  of  these  phases  of  the  management 
problem  will  be  taken  up  in  this  chapter,  it  being  understood  that 
the  description  of  methods  refers  to  the  practice  of  a  large  bank 
and  is  not  applicable  to  all  cases. 

Securing  New  Business. — The   most   important   and  most 
insistent  problem  of  management  is  that  of  enlarging  and  de- 


26  BANKING  PRACTICE  [H 

veloping  the  bank's  business.  As  pointed  out  before,  the  vice- 
presidents  in  each  territory,  or  in  a  small  bank  some  other  officials, 
possibly  the  president  and  cashier,  are  constantly  studying  ways 
and  means  to  develop  new  business.  The  progressive  bank  seeks 
not  only  to  obtain  new  accounts  but  also  to  extend  its  business 
relations  with  those  who  are  already  its  customers.  Accordingly, 
every  effort  is  made  to  bring  new  services  of  the  bank  to  the  atten- 
tion of  both  old  and  prospective  customers.  New  business  comes 
to  the  bank  in  various  ways.  Where  a  bank  possesses  branches 
or  agencies,  these  connections  are  important  means  of  securing 
desirable  customers.  Many  large  banks  keep  a  force  of  field  men 
constantly  traveling  about  to  find  new  business.  Again,  new 
customers  often  apply  for  the  use  of  a  bank's  more  or  less  dis- 
tinctive facilities,  such  as  its  foreign  trade  service  or  its  foreign 
exchange  information.  If  the  applicant  is  of  the  type  desired  as 
a  customer,  an  effort  is  made,  when  the  service  has  been  furnished, 
to  extend  relations  with  him.  Thus  new  accounts  are  obtained 
either  by  personal  solicitation  or  by  means  of  publicity. 

Bank  Publicity  and  the  Publicity  Department. — Bank  pub- 
licity may  be  either  direct  or  indirect.  Some  banks  rely  mainly 
upon  the  general  or  indirect  appeal  of  newspaper  and  magazine 
advertisements,  or  bill-board  and  theater  program  announce- 
ments. The  material  most  frequently  used  in  this  form  of  ad- 
vertising is  the  bank's  financial  statement.  Such  statements 
must  be  published  according  to  law  whenever  a  report  of  the 
condition  of  the  bank  is  called  for  by  the  Comptroller,  but  banks 
frequently  publish  them  of  their  own  volition  as  a  matter  of 
publicity.  A  newspaper  or  magazine  is  often  found  to  be  a  valu- 
able medium  to  introduce  some  new  service  the  bank  is  offering. 
For  the  most  part,  however,  banks  prefer  to  make  use  of  direct 
publicity,  in  the  form  of  special  letters  or  announcements  or  ad- 
vertising material  sent  directly  to  a  carefully  selected  list  of 
persons. 


II]  MANAGING  THE  BANK  2^ 

Where  much  effort  is  expended  in  direct-by-mail  advertising, 
the  work  of  preparing  and  keeping  the  maihng  lists  up  to  date,  of 
editing  the  material,  and  publishing  the  periodicals  and  pam- 
phlets is  usually  handled  by  a  special  publicity  department.  A 
considerable  part  of  the  material  is  often  prepared  by  various 
officers  of  the  bank,  but  the  details  and  mechanics  of  work  and 
the  determination  of  the  direction  the  publicity  ought  to  take  is 
usually  delegated  to  trained  publicity  men. 

Good  examples  of  the  modern  form  of  bank  publicity  that  is 
educational  and  informative,  are  the  bulletins  pubHshed  by  some 
of  the  larger  banks,  which  discuss  current  economic  and  business 
conditions  and  analyze  the  social  and  governmental  problems  of 
the  day.  Such  publications  are  of  very  general  interest  and  their 
aim  is  to  promote  the  influence  of  the  bank  among  business  men. 
They  circulate  widely,  not  only  among  clients  and  prospective 
customers,  but  among  leading  business  and  professional  men  in 
this  country  and  in  many  foreign  countries  as  well. 

In  addition  to  regular  bulletins  or  periodicals  of  this  sort, 
many  banks  issue  special  publications  dealing  with  particular 
problems,  such  as  analyses  of  foreign  trade,  income  tax  laws  and 
rulings,  a  digest  of  the  Federal  Reserve  Act  and  amendments, 
and  similar  topics.  Furthermore,  addresses  of  the  bank's  officers 
before  important  gatherings  are  frequently  published  for  wide 
distribution. 

Eliminating  Undesirable  Accounts. — Another  problem  in  the 
management  of  a  bank  is  to  ascertain  whether  depositors'  ac- 
counts are  profitable  or  not.  The  actual  work  of  making  the 
calculations  may  be  done  by  the  bookkeepers,  the  auditors,  or  by 
other  employees,  the  practice  varying  with  each  bank.  The 
question  itself  is  a  managerial  one.  It  is  the  aim  of  the  bank 
officers  to  make  as  large  a  profit  as  is  possible,  consistent  with 
sound  banking  methods.  Therefore,  it  is  important  that  the 
banker  stop  leaks  and  losses  as  well  as  that  he  increase  income. 


28  BANKING  PRACTICE  [II 

In  the  past  it  was  usually  assumed  that  any  account  which 
showed  a  credit  balance  was  profitable.  A  little  reflection  shows 
that  such  an  opinion  is  unsound,  and  undoubtedly  many  banks 
have  lost  a  considerable  part  of  the  profit  made  on  other  transac- 
tions because  they  carried  deposit  accounts  for  individuals  which, 
instead  of  yielding  a  profit  to  the  bank,  actually  involved  it  in 
loss.  Even  accounts  which  show  a  large  credit  balance  are  not 
always  profitable.  The  statement  was  made  at  a  recent  bankers' 
convention,  that  one  banker  refused  to  accept  an  account  which 
would  have  shown  an  average  balance  of  a  million  dollars.  It 
was  demonstrated  that  by  so  doing  he  saved  money. 

The  Analysis  of  an  Account. — In  analyzing  an  account,  the 
basis  of  the  calculation  is  the  average  loanable  balance.  This  con- 
sists of  the  average  of  the  daily  ledger  balances  of  the  account  less 
the  amounts  not  available  to  the  bank  for  loaning  purposes.  The 
amounts  not  available  consist  of  the  reserve  which  must  be  main- 
tained against  the  deposit  and  the  uncollected  funds  contained  in 
the  balance.  The  reserve  is  the  amount  of  cash  or  its  equivalent 
which  the  bank  must  keep  on  hand  to  meet  the  demands  of  de- 
positors. The  uncollected  funds  consist  of  checks  credited  to  the 
depositor's  account  but  which  have  not  yet  been  converted  into 
cash  by  the  bank.  This  net  balance  is  computed  for  each  period 
covered  by  the  analysis.  On  the  average  loanable  balance  the 
gross  income  obtainable  from  the  account  is  estimated.  To  get 
this  a  rate  of  interest  is  assumed  on  the  loanable  balance  equal 
to  the  average  rate  obtained  by  the  bank  on  all  its  investments 
for  the  period  under  consideration.  This  average  rate  of  interest 
on  the  loanable  balance  gives  the  gross  income  for  the  period. 

In  order  to  obtain  the  net  income  three  deductions  must  be 
made:  (i)  the  interest  paid  to  the  depositor,  if  any;  (2)  the 
amount  paid  by  the  bank  in  the  form  of  exchange  for  collecting 
certain  transit  items  the  cost  of  which  was  not  assessed  against 
the  depositor;  and  (3)  the  cost  of  handling  the  account.    It  is  a 


II]  MANAGING  THE  BANK  29 

very  simple  matter  to  ascertain  the  amount  of  interest,  if  any, 
actually  paid  on  the  account.  The  amounts  paid  for  exchange 
are  also  easily  ascertained. 

Cost  of  Handling  a  Depositor's  Account. — The  expense  of 
handling  the  account  involves  cost  analysis.  There  are  three 
expenses  to  be  allowed  for :  first,  the  direct  expense  which  is  the 
expense  incurred  in  handling  the  items  arising  in  connection  with 
the  account.  That  is  to  say,  each  check  the  depositor  draws  and 
each  deposit  he  makes,  as  well  as  the  items  he  deposits  drawn  on 
other  places,  all  require  labor  and  the  use  of  the  bank  plant  and 
equipment  which,  of  course,  represent  expense  to  the  bank.  The 
total  expense  for  carrying  on  a  given  operation  in  a  department — 
for  example,  collecting  checks — for  the  period  is  estimated.  The 
number  of  items  handled  in  each  department  is  then  determined, 
and,  by  dividing  the  total  cost  of  handling  all  the  items  by  the 
number  of  items  handled,  the  average  unit  cost  for  each  item 
passing  through  the  process  is  ascertained.  This  unit  figure  is 
multiplied  by  the  number  of  items  thus  handled  for  the  account 
under  consideration,  and,  if  this  is  carried  out  for  all  the  operating 
services  used  by  the  depositor,  the  total  of  all  such  costs  furnishes 
the  bank  with  the  direct  expense  of  maintaining  the  account. 

The  second  element  in  the  expense  is  that  incurred  through 
special  service  rendered.  It  is  frequently  impossible  to  determine 
the  actual  expense  per  item.  The  cost  of  such  service  is  therefore 
distributed  on  an  estimated  basis  among  the  customers  using  this 
service.  The  kinds  of  service  included  here  are  suggested  by  the 
advice  or  information  furnished  on  foreign  trade  or  some  similar 
matter.  The  third  form  of  expense  is  the  indirect  or  overhead 
expense.  This  includes  the  general  and  administrative  expenses 
which  cannot  be  directly  allocated  to  the  depositor's  account. 
Because  of  the  difficulty  of  distributing  these  fairly,  they  are 
sometimes  ignored.  At  other  times  these  expenses  are  distri- 
buted in  an  arbitrary  manner.    All  of  the  expenses  of  mainte- 


30  BANKING  PRACTICE  [II 

nance  and  the  outlays  for  exchange  and  interest  on  the  account 
are  deducted  from  the  gross  income  to  arrive  at  the  net  income. 
This  shows  to  what  extent  the  bank  profits  from  the  account. 

Some  Accounts  Indirectly  Profitable. — While  such  analysis 
does  not  indicate  profits  with  absolute  accuracy,  it  nevertheless 
approximates  them  sufficiently  closely  so  that  the  officials  can 
determine  whether  a  given  account  is  worth  keeping.  Some 
accounts  may  be  kept  by  the  bank  even  though  they  do  not  show 
a  profit,  if  the  depositor  has  influential  connections  that  bring  the 
bank  a  large  amount  of  other  business. 

Statistics  an  Aid  to  Management. — Certain  other  types  of 
information  are  needed  for  the  guidance  of  the  officers  of  a  bank. 
In  a  large  bank  the  work  of  preparing  and  analyzing  statistical 
data  is  of  great  importance,  and  some  banks  maintain  special 
departments  for  the  purpose  of  making  researches  regarding  trade, 
production,  transportation,  finance,  economics,  and  industry. 
This  material  not  only  is  useful  in  formulating  the  broader  policies 
of  the  bank,  but  it  is  closely  connected  with  the  publicity  work.  For 
example,  the  results  of  some  of  these  researches  may  be  published 
and  distributed  in  pamphlet  form  for  the  benefit  of  depositors. 

The  Personnel  Problem. — Another  phase  of  the  problem  of 
managing  a  large  bank  is  the  personnel  work.  Its  scope  may  be 
indicated  by  the  following  outline  of  the  activities  of  a  personnel 
department: 

1.  Engaging  new  employees. 

2.  Transierring  employees. 

3.  Attending  to  resignations  and  discharges. 

4.  Answering  inquiries  about  former  employees. 

5.  Making  job  analyses. 

6.  Making  studies  of   the  salary   question   and  preparing 

statistics  regarding  the  working  force. 


II]  MANAGING  THE  BANK  31 

7.  Interviewing  employees  in  order  to  ascertain  their  atti- 

tude toward  other  employees  and  the  institution. 

8.  Conducting  educational  work  among  the  employees. 

9.  Seeking  in  general   to  promote   the  well-being  of  the 

employees. 

The  engaging  of  new  employees  for  a  large  bank  is  a  problem 
of  considerable  magnitude  and  one  which  requires  great  care. 
Not  only  must  candidates  possess  intelligence  and  ability  of  a 
high  order,  but  they  must  also  bear  an  unquestioned  reputation 
for  honesty  and  reliability.  Applicants  for  positions  in  such  an 
institution,  whether  they  come  on  their  own  initiative,  from  an 
employment  agency,  through  the  introduction  of  an  officer  or  a 
friend  of  the  institution,  or  in  reply  to  a  general  advertisement  for 
help  wanted,  are  required  to  file  with  the  personnel  department 
a  standard  form  of  application  and  to  submit  names  for  reference. 
The  references  are  looked  up  by  the  personnel  department  and  the 
information  obtained  is  filed  along  with  the  application.  When 
vacancies  arise  in  large  banks,  the  requirements  of  the  position 
and  the  qualifications  needed  by  the  prospective  employee  are 
brought  to  the  attention  of  the  personnel  department  by  means 
of  requisitions  signed  by  the  department  head  and  the  division 
head,  where  this  form  of  organization  is  followed.  The  personnel 
department  then  selects  the  most  promising  applicant  for  the 
place.  When  a  new  employee  is  engaged,  he  submits  an  applica- 
tion for  a  bond  to  insure  the  bank  against  losses  for  which  he  may 
be  responsible.  The  bond  must  be  approved  as  a  rule,  before  he 
enters  upon  his  duties,  and  practically  all  its  cost  is  defrayed  by 
the  bank. 

It  frequently  becomes  necessary  to  transfer  employees  from 
one  department  to  another.  These  transfers  may  be  occasioned 
by  changes  in  the  volume  of  work  in  different  departments,  or 
they  may  be  desirable  because  an  employee  in  one  department 
seems  capable  of  doing  more  responsible  work  than  that  upon 
which  he  is  engaged;  or  sometimes  in  the  interest  of  harmony. 


32  BANKING  PRACTICE  [II 

Where  a  personnel  department  is  in  existence,  it  usually  has 
charge  of  such  rearrangements. 

When  an  employee  has  to  be  discharged,  it  falls  upon  the 
personnel  department  to  advise  him  of  the  decision.  The  resig- 
nation of  those  who  voluntarily  leave  the  employ  of  a  bank  may 
likewise  come  to  this  department,  and  it  thus  has  an  opportunity 
of  ascertaining  the  causes  leading  to  these  resignations.  This 
information  may  later  prove  valuable  as  a  basis  for  recommenda- 
tions for  the  purpose  of  making  employment  in  the  bank  more 
satisfactory.  The  hiring  and  training  of  new  employees  is  ex- 
pensive and  troublesome,  and  one  of  the  important  problems  of 
bank  management  is  to  reduce  the  labor  turnover  to  its  lowest 
terms.  To  this  end  the  personnel  department  interviews  em- 
ployees in  a  sincere  effort  to  locate  any  cause  of  dissatisfaction 
and  to  provide  a  remedy.  Such  interviews  help  to  maintain  a 
close  personal  relation  between  the  institution  and  its  employees. 

The  personnel  department,  in  its  effort  to  promote  satisfac- 
tory relations  with  employees,  prepares  a  periodical  analysis  of 
the  salary  schedules  with  recommendations  for  increases  and 
promotions.  Equal  rates  of  remuneration  for  similar  tasks  are 
thus  established  and  the  danger  of  favoritism  in  promotions  and 
salary  increases  is  minimized. 

Job  Analysis — Welfare  Work. — To  assist  the  personnel  de- 
partment in  selecting  new  employees,  a  detailed  analysis  of  each 
position  in  the  bank  is  made;  the  analyses  are  then  used  to 
determine  the  qualifications  needed  by  the  applicants.  Records 
and  statistics  are  kept  so  that  at  any  time  the  personnel  depart- 
ment can  furnish  information  as  to  the  location  and  work  of  any 
employee  and  an  estimate  of  his  value  to  the  institution.  Ab- 
sences from  work  are  checked  up.  If  an  employee  is  absent  for  a 
considerable  length  of  time,  effort  is  made  to  ascertain  the  cause 
and  to  assist  him  if  he  is  in  distress.  Many  banks  carry  on  this 
sort  of  welfare  work.   In  the  small  bank  the  officers  and  employees 


II]  MANAGING  THE  BANK  33 

are  in  such  close  touch  that  it  is  possible  for  those  in  authority 
to  know  the  needs  and  difficulties  of  any  employee,  but  in  a  large 
bank  this  personal  touch  is  impossible.  Nevertheless,  attempts 
are  made  to  promote  the  well-being  of  employees  in  many  ways. 
Many  large  banks  maintain  a  physician,  and  in  some  cases  a  small 
hospital,  for  the  benefit  of  their  staff  and  the  medical  men  suggest 
the  sort  of  exercise  and  methods  of  living  that  will  increase  the 
health  and  comfort  of  the  employees. 

Some  banks  have  established  social  organizations  in  which 
employees  may  find  recreation;  others  maintain  club  houses 
where  their  employees  live  in  attractive  surroundings  and  at  a 
moderate  price.  Others  again,  provide  some  form  of  insurance, 
or  pension  scheme,  whereby  after  a  certain  number  of  years' 
service  an  employee  may  retire  on  an  allowance  from  the  bank. 
Particularly  during  the  war  and  reconstructing  period,  there  was 
increasing  use  also  of  bonus  systems  and  profit-sharing  plans  for 
employees.  Finally,  thrift  is  encouraged  in  a  large  number  of 
banks  by  the  establishment  of  a  saving  fund  or  investment  fund 
in  which  employees  may  deposit  their  savings  and  on  which  the 
bank  guarantees  a  very  liberal  rate  of  interest,  sometimes  running 
as  high  as  8  per  cent. 

Training  Employees. — Closely  related  to  welfare  work  is 
educational  work,  which  has  in  view  not  only  helpfulness  to  the 
employee,  but  the  advancement  of  the  bank.  With  the  exacting 
requirement  for  employees  in  a  modern  bank,  it  is  becoming  in- 
creasingly difficult  to  obtain  satisfactory  persons  who  are  properly 
trained.  As  banks  expand  and  engage  in  a  great  variety  of 
activities,  more  persons  are  needed  for  responsible  positions.  As 
competition  for  business  becomes  keener,  the  profit  which  a  bank 
can  make  depends  very  largely  upon  its  ability  to  see  opportuni- 
ties in  advance  of  its  rivals  and  to  avoid  the  small  mistakes  which 
formerly  were  of  slight  moment.  Hence  the  educational  work  of 
a  large  bank  may  be  said  to  take  two  main  directions:  first,  the 


34  BANKING  PRACTICE  [II 

training  of  new  men  for  employment;  and  second,  providing 
opportunities  for  continuous  education  and  training  for  the 
employees.  Of  course  a  great  deal  of  this  training  is  provided  by 
other  institutions. 

One  of  the  important  agencies  for  the  education  of  bank 
employees  is  the  American  Institute  of  Banking  which  has  been 
organized  under  the  supervision  of  the  American  Bankers'  Asso- 
ciation to  provide  social  and  educational  opportunities  for  bank 
employees.  There  are  in  addition  large  numbers  of  universities 
and  colleges  and  other  training  schools  which  furnish  the  pre- 
liminary training  to  a  very  considerable  extent.  Most  banks  find 
it  desirable  to  supplement  this  training  by  what  corresponds  to 
continuation  schools  conducted  by  the  bank  itself  or  by  private 
corporations  specializing  in  this  field.  A  few  very  large  banks 
have  established  special  training  schools  for  the  purpose  of  pre- 
paring college  men  for  banking  work. 

Legal  Problems  in  Bank  Management. — A  legal  department 
or  legal  advisers  usually  are  trained  to  aid  the  managers  of  a 
bank  in  handling  problems  which  may  have  legal  complications. 
To  such  department  or  advisers  are  delegated  by  the  management 
the  legal  phases  of  claims  and  disputes  which  have  not  yet  reached 
the  litigation  stage.  Cases  of  forgery  or  check  alteration,  of  ex- 
aminations of  the  legal  position  of  collateral,  especially  the  legal- 
ity of  the  issuance  of  bonds  which  are  offered  as  collateral,  the 
legal  phases  of  all  stop-payments  on  checks  and  bond  coupons, 
requests  for  reimbursement  on  account  of  checks  paid  over  stop- 
payment  orders,  requests  for  reimbursement  because  of  lost 
checks,  and  similar  cases,  are  handled  by  the  legal  advisers  for 
the  management.  When  a  bank  issues  duplicates  to  reimburse 
its  customers  for  lost  cashier's  checks  and  certified  checks,  the 
officers  obtain  through  their  legal  staff  the  necessary  guarantees, 
affidavits,  and  indemnity  bonds.  Injunctions  and  legal  notices 
received  by  the  bank  are  also  referred  to  the  legal  advisers  fpr 


II]  MANAGING  THE  BANK  35 

attention.  The  managers  frequently  call  upon  their  legal  staff  to 
obtain  payment  for  the  bank  of  items  which  are  past  clue  or  are 
unpaid  for  any  reason. 

The  Fostering  of  Community  Good-Will. — Another  manager- 
ial problem  is  the  development  of  ways  in  which  the  bank  may 
render  service  to  its  customers  and  the  community.  Every 
banker  in  seeking  to  increase  his  business  and  his  profits  realizes 
that,  in  order  to  obtain  the  widest  possible  influence,  his  bank 
must  make  itself  useful  to  those  whom  it  wishes  to  attract  as  de- 
positors. The  average  bank  will  go  to  great  lengths  to  render  a 
service  for  a  depositor,  and  the  variety  of  services  is  almost  in- 
finite. Some  banks  employ  experts  in  various  lines  of  business  to 
make  investigations  and  give  information  to  depositors  as  to  the 
manner  in  which  they  may  increase  their  business.  Furthermore, 
banks  which  have  foreign  connections  make  a  specialty  of  giving 
the  information  which  comes  into  their  hands  to  such  customers 
as  may  be  interested  in  the  development  of  foreign  trade.  Some 
banks  maintain  special  financial  libraries  in  which  are  collected 
all  the  important  publications  which  may  be  of  use  to  business  or 
professional  men  in  studying  some  particular  phase  of  business 
or  finance. 

Buying  the  Bank's  Supplies.— While  the  problem  of  buying, 
issuing,  and  economizing  supplies  is  one  of  management,  it  is  not 
peculiar  to  the  banking  business.  The  procedure  followed  gen- 
erally by  banks  is  the  same  as  that  which  prevails  in  other  large 
businesses.  Supplies  are  purchased  by  one  person  or  by  one 
department  which  becomes  thoroughly  familiar  with  the  qualities, 
prices,  and  markets  for  the  various  goods  needed.  Efforts  are 
made  to  obtain  the  supplies  under  the  most  favorable  terms; 
frequently  dealers  are  requested  to  submit  bids  in  competition 
with  other  supply  houses.  When  the  goods  are  received  they  are 
checked  up  carefully  with  the  original  order,  and  the  bill  rendered 


36  BANKING  PRACTICE  [II 

is  then  marked  correct  so  that  it  may  be  paid  at  the  proper  time. 
The  suppHes  are  permitted  to  go  out  to  the  employees  only  in 
exchange  for  proper  requisitions.  A  current  inventory  is  kept  so 
that  those  having  charge  of  supplies  can  make  their  plans  and 
reorder  at  the  proper  time. 


CHAPTER   III 
THE  BANK  AS  A  GOING  CONCERN 

Types  of  Banks — Commercial  Banks. — Banking  institutions 
may  be  divided,  on  the  basis  of  the  kind  of  business  they  do,  into 
three  classes:  commercial  banks,  savings  banks,  and  trust 
companies.  While  all  three  types  are  engaged  in  handling  finan- 
cial transactions,  they  differ  in  the  kind  of  transactions  dealt  with 
and  in  the  methods  employed.  A  commercial  bank  deals  mainly 
with  persons  engaged  in  commerce,  and  its  business  consists 
largely  of  receiving  on  deposit  current  funds  subject  to  withdrawal 
on  demand,  and  of  extending  loans  to  business  enterprises  desir- 
ing to  use  such  funds  for  relatively  short  periods  of  time.  Since 
the  deposits  of  a  commercial  bank  are  subject  to  immediate  with- 
drawal, the  bank  is  necessarily  restricted  to  the  investment  of 
such  funds  in  short-term  loans  or  highly  liquid  securities. 

The  chief  functions  of  commercial  banks  are  to  finance,  over 
space  and  time,  payments  arising  in  connection  with  industrial 
and  trading  operations.  Persons  who  use  such  institutions  do  so 
either  to  obtain  the  convenience  of  transferring  money  from  one 
place  to  another  by  means  of  checks,  or  to  obtain  an  advance  of 
funds  to  pay  for  materials  or  goods  to  be  disposed  of  later  at  a 
profit.  The  possibility  of  spreading  payments  over  intervals  of 
time  is  made  use  of  throughout  the  process  of  converting  raw 
materials  into  finished  products,  and  during  the  movement  of 
such  goods  through  the  hands  of  the  jobber,  wholesaler,  and 
retailer. 

Savings  Banks.— Savings  banks  are  institutions  organized 
for  the  purpose  of  providing  a  place  of  safe  deposit  and  of  invest- 
ment for  the  small  sums  of  money  which  are  accumulated  by 

37 

389038 


38  BANKING  PRACTICE  [  III 

persons  who  do  not  expect  to  use  them  immediately  but  who  are 
seeking  to  accumulate  a  fund  of  capital.  A  bank  which  devotes 
itself  strictly  to  receiving  savings  accounts  is  not  forced  to  repay 
its  depositors  on  demand.  Laws  in  different  states  vary,  but 
most  frequently  such  banks  are  permitted  to  demand  a  30-or  60- 
day  notice  of  withdrawal  from  depositors.  Since  their  deposits 
thus  are  time  deposits  and  are  not  expected  to  be  withdrawn  in 
the  near  future,  they  may  be  invested  in  long-time  obligations 
such  as  real  estate  mortgages  and  corporation  bonds.  Usually  the 
depositor  is  not  permitted  to  draw  checks  against  his  savings 
account.  Savings  and  commercial  banks  might  be  contrasted  by 
saying  that  the  former  is  a  money  bank  while  the  latter  is  a  check 
or  negotiable  instrument  bank.  The  savings  bank  makes  the 
great  majority  of  its  payments  against  depositors'  accounts  by 
means  of  cash  over  the  counter,  whereas  the  commercial  bank 
makes  most  of  its  payments  through  the  clearing  house  or  through 
the  mail  by  methods  to  be  described  later. 

Trust  Companies. — The  third  type  of  institution,  the  trust 
company,  is  organized  primarily  to  act  in  a  fiduciary  capacity  for 
individuals  and  corporations.  Formerly  it  was  the  custom  to 
have  private  individuals  serve  as  executors  and  administrators  of 
estates,  as  guardians  for  minors  and  incompetents,  and  as  guaran- 
tors for  persons  in  positions  of  responsibility  and  trust.  This 
work  is  today  largely  in  the  hands  of  trust  companies,  which  are 
better  equipped  for  the  purpose  than  private  individuals  because 
of  larger  financial  resources,  more  expert  judgment,  and  longer 
life. 

Many  Banks  Perform  All  Functions. — While  for  purposes  of 
analysis  banking  functions  may  be  separated,  in  actual  practice 
the  tendency  is  for  a  single  institution  to  assume  them  all.  Thus 
we  find  national  banks — originally  designed  as  commercial 
banks — now  operating  savings  departments  and  carrying  on  the 


Ill]  THE  BANK  AS  A  GOING  CONCERN  *  39 

work  normally  performed  by  trust  companies.  Institutions  which 
devote  themselves  exclusively  to  receiving  and  investing  savings 
deposits  are  relatively  insignificant  in  number.  Corporations 
organized  primarily  to  serve  in  a  fiduciary  capacity  as  trust  com- 
panies, usually  conduct  both  a  savings  and  commercial  business 
as  well.  The  tendency  to  engage  in  all  lines  of  financial  activity 
has  been  referred  to  as  the  application  of  the  department  store 
method  of  banking. 

The  savings  bank  business  is  simple  in  character.  Deposits 
consist  in  the  majority  of  cases  of  actual  cash;  withdrawals  are 
usually  made  only  when  the  depositor  presents  his  pass-book  at 
the  bank  and  receives  cash  in  settlement;  and  the  burden  of  in- 
vesting the  funds  left  on  deposit  is  relatively  simple  because  such 
banks  are  generally  restricted  in  their  choice  of  investments.  In 
the  present  volume,  accordingly,  it  is  unnecessary  to  consider 
independently  the  operations  connected  with  the  receipt  and 
care  of  savings  deposits,  as  they  are  covered  in  a  study  of  the 
operations  of  commercial  banks,  by  far  the  most  numerous  class 
in  this  country. 

The  Field  of  Commercial  Banking. — The  evolution  of  the 
banking  business  is  by  no  means  completed.  New  functions  are 
continually  being  introduced  and  the  emphasis  on  old  forms  of 
business  is  continually  changing.  Through  the  granting  or  with- 
holding of  credit  and  through  the  insistence  that  their  resources 
be  advanced  only  for  certain  uses,  banks  tend  more  and  more  to 
direct  the  course  of  industry.  The  development  and  extension  of 
foreign  trade  has  come  to  depend  largely  upon  the  direction  and 
assistance  of  bankers.  The  estabhshment  of  foreign  branches 
and  foreign  agencies  is  constantly  bringing  the  banker  into  closer 
touch  with  international  affairs,  and  is  thereby  giving  him  power 
to  influence  political  and  economic  changes  throughout  the  world. 

In  directing  the  investments  of  private  individuals,  also,  the 
banks  are  finding  an  increasing  sphere  of  usefulness.    The  funds 


40  BANKING  PRACTICE  [III 

available  for  investment  in  the  hands  of  private  individuals 
constantly  increase,  and  to  protect  investors  from  their  own  folly 
effort  has  been  made  to  get  them  to  seek  advice  from  their  bankers 
before  risking  their  funds  in  any  enterprise.  Hence  the  banks  are 
not  only  called  upon  for  advice  but  they  are  frequently  asked  to 
make  purchases  and  sales  of  investment  securities  for  their  cus- 
tomers. Some  banks  in  their  desire  to  serve  their  customers  sell 
to  these  clients  some  of  the  investments  which  they  have  made  for 
themselves  and  then  buy  other  securities  with  the  funds  thus 
released.  Many  banks  give  this  service  free  of  charge.  In  other 
cases  the  demand  for  a  bank's  advice  and  service  has  been  so 
frequently  made  that  separate  companies  have  been  formed  by 
certain  banks  for  the  purpose  of  dealing  in  investment  securities. 
These  companies  are  usually  owned  by  the  stockholders  of  such 
banks.  These  changes  in  the  nature  of  banking  hold  out  greater 
opportunities  in  every  phase  of  the  business.  They  require,  it 
may  be  said,  for  positions  of  responsibility  men  who  have  been 
much  more  thoroughly  trained  than  the  banker  of  the  past 
generation. 

Banks  as  Privately  Owned  Enterprises. — It  is  desirable, 
before  examining  in  detail  the  various  banking  operations,  to  get 
a  comprehensive  view  of  a  bank  as  a  going  concern,  so  as  to  see  the 
manner  in  which  many  distinct  operations  contribute  to  the 
general  purpose  of  the  institution.  No  one  of  these  operations, 
such  as  paying,  receiving,  and  lending  money,  is  carried  on  in  an 
isolated  manner  as  an  end  in  itself,  but  is  incidental  to  the  main 
purpose  of  banking.  What  is  this  purpose?  Or  to  put  it  in  other 
words:  What  is  a  bank?  A  bank  is  a  privately  owned  and  usually 
incorporated  business  operated  for  the  purpose  of  making  profit 
by  selling  service  of  a  financial  character.  Although  banks  are 
coming  to  be  regarded  more  and  more  as  public  utilities,  it  must 
be  recognized  that  they  are  established  primarily  for  the  profit  of 
the  stockholders.    For  this  reason  much  of  the  popular  criticism 


Ill  ]  THE  BANK  AS  A  GOING  CONCERN  4I 

directed  against  banks  is  improper.  Banks  in  the  agricultural 
regions,  for  example,  have  sometimes  been  criticized  because  they 
have  preferred  to  make  call  loans  in  the  New  York  money  market 
rather  than  time  loans  to  the  farmers  in  their  own  community. 
Whether  the  charge  be  true  or  not,  the  criticism  loses  its  force 
when  it  is  recalled  that  the  bank  is  a  privately  owned  enterprise 
operated  in  accordance  with  the  owners'  ideas  as  to  the  methods 
which  will  insure  maximum  profits.  If  it  is  expected  that  rates  of 
interest  are  going  to  advance  or  that  the  bank  is  likely  to  be  in 
need  of  a  supply  of  ready  money  some  time  in  the  near  future, 
it  would  be  wiser  to  invest  the  bank  funds  in  a  loan  on  which 
money  could  be  obtained  at  a  day's  notice  rather  than  in  agri- 
cultural loans  which  would  be  likely  to  remain  outstanding  for  a 
long  time.  On  the  other  hand,  the  progressive  banker  seeks  to 
adopt  the  line  of  action  which  will  insure  maximum  profits  in  the 
long  run,  and  hence  the  local  loan,  even  though  not  so  attractive 
at  the  time  of  negotiation  as  the  loan  in  a  distant  market,  may 
still  be  preferred  if  by  granting  it  he  secures  the  good-will  and 
confidence  of  his  customer.  This  good-will  would  be  the  founda- 
tion for  continued  prosperity.  But  the  decision  would  rest  on 
considerations  of  private  profit  and  not  primarily  on  any  duty  to 
the  public. 

A  Bank's  Services  to  Society. — The  services  which  a  bank 
sells  in  its  effort  to  make  a  profit  may  be  grouped  under  four 
main  heads: 

1.  Providing  facilities  for  the  safe-keeping  of  money  and 

valuables. 

2.  Providing  machinery  for  exchange. 

3.  Making  loans  and  manufacturing  credit. 

4.  Serving  in  a  fiduciary  capacity. 

It  may  occur  to  the  reader  that  many  activities  are  carried  on 
in  a  modern  commercial  bank  which  do  not  seem  to  fall  within 
any  of  these  groups.    Closer  analysis,  however,  will  demonstrate 


42  BANKING  PRACTICE  [III 

that  practically  all  bank  operations  contribute  to  the  furnishing 
of  one  of  these  four  main  services,  some  directly  and  others  in- 
cidentally as  an  outgrowth  of  the  service  rendered.  In  this 
volume  the  attempt  has  been  made  to  group  the  chapters  accord- 
ing to  these  functions. 

Chapters  IV  and  V  have  to  do  chiefly  with  the  first  service 
mentioned — that  of  providing  a  place  for  the  safe-keeping  of 
funds.  Chapters  VII  to  XV  analyze  the  operations  connected 
with  the  provision  of  exchange  facilities.  Chapters  XVI  to  XIX 
discuss  the  function  of  providing  credit.  Chapters  XXIII  to 
XXV  deal  with  the  fiduciary  and  related  activities.  The  inciden- 
tal operations  are  treated  in  Chapter  VI  and  in  Chapters  XX  to 
XXII.  Paying  operations  (Chapter  VI)  are  necessarily  inciden- 
tal to  receiving,  lending,  and  providing  facilities  for  exchange; 
and  the  various  recording  operations  discussed  in  Chapters  XX 
to  XXII  are  necessarily  developments  in  keeping  the  records  of 
a  bank's  relations  with  its  customers.  Of  these  four  main  func- 
•tions,  the  first  three  should  be  regarded  as  characteristic  of  the 
modern  commercial  bank;  the  fourth  represents  a  new  type  of 
business  development  rendered  necessary  in  many  cases  by  com- 
petition between  financial  institutions. 

Interrelation  of  Banking  Functions. — It  would  be  desirable, 
if  it  were  possible,  to  discuss  separately  the  activities  which 
arise  in  connection  with  each  banking  function,  but  the  func- 
tions themselves  are  so  interrelated  that  it  is  impossible  to 
complete  the  consideration  of  one  without  becoming  involved 
to  some  extent  in  a  discussion  of  transactions  relating  to  other 
functions.  Thus  the  receipt  of  deposits  makes  demands  upon 
the  exchange  facilities  of  the  bank;  the  deposit  itself  is  in  most 
cases  the  product  of  credit  manufacture;  and  in  turn  the  de- 
positor receives  the  use  of  a  convenient  medium  of  exchange — 
the  bank  check  or  bank  note.  While  there  is  much  unavoidable 
overlapping  in  the  discussion  of  these  functions,  this  may  be 


Ill]  THE  BANK  AS  A  GOING  CONCERN  4'3 

ignored  temporarily  in  an  attempt  to  make  clear  their  nature 
and  importance. 

The  Deposit  Function. — While  probably  not  the  first  in  order 
of  development  the  provision  of  facilities  for  the  safe-keeping  of 
funds  and  other  valuables  is  undoubtedly  first  in  the  conscious- 
ness of  the  ordinary  observer  today.  That  feature  of  the  deposit 
business  which  consists  in  offering  for  rent  safe  deposit  vaults  for 
the  keeping  of  valuable  papers  and  similar  possessions,  is  not  an 
essential  banking  activity  although  most  modern  banks  offer 
these  facilities  to  their  customers.  However,  it  has  been  claimed 
that  the  deposit  business  as  it  has  developed  in  modern  times  is 
the  outgrowth  of  the  safety  deposit  business  of  an  earlier  period. 
For  example,  it  is  asserted  that  the  early  money-changers  and 
goldsmiths  who  provided  themselves  with  strong-boxes  and  iron 
chests  for  the  protection  of  their  own  valuables,  also  built  up  a 
considerable  business  in  receiving  for  safe-keeping  the  coins, 
jewels,  and  other  valuables  of  people  who  had  no  safe  place  in 
which  to  keep  them,  and  that  this  practice  has  developed  into  the 
modern  business  of  depositing  funds  for  current  needs. 

Modern  Character  of  Deposit  Business. — It  should  be  noted 
that  the  whole  character  of  the  deposit  business  in  modern  times 
has  been  changed.  The  original  purpose  of  providing  facilities 
for  the  safe-keeping  of  funds  or  valuables  still  exists  where  banks 
rent  safe  deposit  boxes  and  where  they  receive  deposits  known  as 
savings  deposits.  In  selling  to  a  customer  the  right  to  make  use 
of  its  safe  deposit  facihties,  the  bank  merely  rents  to  him  a  com- 
partment which  it  seeks  to  make  as  safe  as  possible;  but  it  as- 
sumes no  obligation  with  regard  to  these  valuables  other  than 
that  it  will  exercise  all  possible  care  in  their  protection.  In  re- 
ceiving deposits  of  savings  funds  or  of  funds  for  current  use,  the 
bank  becomes  the  debtor  to  the  customer  and  makes  itself  re- 
sponsible for  returning  to  him  an  amount  equivalent  to  his  deposit. 


44  BANKING  PRACTICE  [HI 

The  customer  who  makes  a  savings  deposit,  or,  as  it  is  sometimes 
called,  a  time  deposit,  does  so  with  the  intention  of  transferring 
the  care  of  these  funds  to  the  bank  and  he  looks  upon  his  deposit 
as  a  form  of  investment  since  the  bank  obligates  itself  to  pay 
interest  on  such  sums. 

Purpose  of  Modern  Depositor. — In  using  the  ordinary  com- 
mercial account  or  deposit — which  is  the  form  of  deposit  chiefly 
discussed  in  this  volume — the  depositor  seeks  to  make  use,  not  so 
much  of  facilities  for  the  safe  deposit  or  the  safe-keeping  of  his 
funds,  but  rather  of  the  bank's  facilities  for  the  transfer  or  ex- 
change of  funds.  He  does  not  look  upon  the  deposit  as  an  invest- 
ment and  he  does  not  usually  intend  to  keep  the  particular  funds 
deposited  in  the  bank  for  more  than  a  very  short  time.  The  cus- 
tomer of  a  modern  commercial  bank  is  net  a  depositor  in  the  old 
sense,  but  is  rather  a  purchaser  of  the  bank's  services  in  the  pro- 
vision of  exchange  facilities  and  in  the  extension  of  credit.  This 
change  is  made  clear  by  a  consideration  of  the  nature  of  the  de- 
posits made.  To  a  very  limited  extent  these  deposits  consist  of 
gold,  silver,  and  government  paper  money.  To  a  somewhat 
greater  extent  they  consist  of  national  bank  notes  and  federal 
reserve  notes,  both  of  which  represent  media  of  exchange  created 
by  banks.  To  a  still  greater  extent  they  consist  of  checks,  drafts, 
and  similar  items,  which  likewise  represent  media  of  exchange 
created  by  the  banks;  and  to  the  greatest  extent  of  all  they  consist 
of  the  proceeds  of  loans  made  by  the  bank  by  which  a  new  kind 
of  medium  of  exchange  has  been  provided,  namely,  deposit 
currency. 

Deposit  Currency  Created  Through  Loans.— If  the  student 
will  compare  the  total  of  demand  deposits  for  the  banks  of  the 
country  as  a  whole,  with  the  total  loans  and  discounts  of  such 
banks,  he  will  note  a  striking  similarity  in  amounts.  If  loans  in- 
crease, deposits  increase,  and  vice  versa.    These  figures  furnish 


IH]         THE  BANK  AS  A  GOING  CONCERN  45 

supplementary  evidence  that  the  billk  of  the  deposits  in  a  com- 
mercial bank  represent  the  proceeds  from  loans.  The  relation 
may  be  made  clear  by  a  numerical  example. 

Suppose  that  a  bank  begins  business  with  a  capital  of  $100,000 
which  has  been  paid  in  in  cash.  The  situation  would  then  be 
indicated  on  a  balance  sheet  as  follows: 

Resources                                                  Liabilities 
Cash $100,000         Capital  Stock $100,000 

Now  suppose  deposits  of  actual  money  are  received  to  the  extent 
of  $100,000.    The  statement  would  then  appear: 

Resources  Liabilities 

Cash $200,000  Capital  Stock $100,000 

Deposits 100,000 

The  bank  is  prepared  to  make  loans  to  persons  who  can  provide  sat- 
isfactory security.  Obviously  the  more  money  the  bank  can  loan, 
the  greater  will  be  its  income  and  profit.    How  much  can  it  loan? 

In  the  first  place  it  has  assumed  the  obligation  of  repaying  its 
depositors  $100,000  on  demand.  The  managers  of  the  bank, 
however,  know  that  these  depositors  are  not  likely  to  withdraw 
their  money  immediately,  for  if  they  had  intended  to  do  so  they 
would  not  have  deposited  the  money.  Furthermore,  they  can 
safely  assume  that  while  some  money  will  be  withdrawn  from  day 
to  day,  an  amount  approximately  equal  to  or  greater  than  that 
withdrawn  will  be  deposited  by  old  and  new  customers.  Hence 
the  managers  know  that  it  is  unnecessary  to  keep  on  hand  the 
whole  of  the  $100,000  of  cash  deposited,  and  they  know  also  that 
they  may  safely  lend  the  $100,000  which  the  stockholders  have 
invested  in  the  enterprise. 

Suppose  they  begin  by  loaning  their  own  $100,000  to  cus- 
tomers who  choose  to  deposit  the  funds  in  the  bank  so  that  they 


46  BANKING  PRACTICE  [III 

can  transfer  these  balances  by  means  of  checks.  The  balance 
sheet  would  then  stand  as  follows: 

Resources  Liabilities 

Loans $100,000         Capital  Stock $100,000 

Cash 200,000  Deposits 200,000 

It  will  be  noticed  that  the  bank  still  has  all  the  cash  it  had 
before  and  has  merely  changed  its  position  in  that  it  now  has 
claims  against  other  persons  for  $100,000  represented  by  loans, 
and  that  its  customers  have  claims  against  it  under  the  head  of 
"Deposits"  for  an  additional  $100,000.  Its  cash  is  equal  to  its 
total  deposits  and  therefore  it  could  pay  off  all  of  its  depositors 
with  cash  immediately  if  they  should  all  make  application  at  the 
same  time.  But  as  was  said  before,  this  is  extremely  improbable. 
Therefore,  the  bank  managers  know  that  they  can  increase  their 
income  further  by  loaning  more  money  to  customers  who  will 
request  credit  on  the  books  of  the  bank  rather  than  cash.  As- 
suming that  experience  has  shown  that  20  per  cent  of  the  total 
deposits  needs  to  be  kept  in  actual  cash,  the  bank  could  go  on 
meeting  the  requests  of  customers  for  loans  to  the  extent  of 
$900,000.     The  balance  sheet  would  then  appear: 

Resources  Liabilities 

Loans $900,000  Capital  Stock $    100,000 

Cash 200,000  Deposits i  ,000.000 

Of  course,  this  is  an  artificially  simplified  statement.  Long  before 
the  business  had  reached  the  proportions  indicated  there  would 
be  many  other  items  on  both  sides  of  the  bank  statement,  but  it 
serves  to  indicate  the  manner  in  which  loans  create  deposits. 
The  actual  procedure  of  handling  deposits  of  the  character  dis- 
cussed here  is  taken  up  in  the  chapters  dealing  with  receiving  and 
lending  operations. 


Ill]  THE  BANK  AS  A  GOING  CONCERN  47 

The  Exchange  Function. — The  second  major  function  pre- 
viously noted  is  that  of  providing  facilities  for  exchange.  In 
banking  literature  the  word  "exchange"  has  two  uses.  In  one 
sense  exchange  indicates  the  process  of  trading  or  exchanging  one 
kind  of  coin  for  another  kind,  and  it  is  usually  asserted  that  the 
earliest  bankers  were  men  who  were  engaged  in  this  business. 
Merchants  with  coins  received  in  various  parts  of  the  world  were 
accustomed  to  resort  to  these  money-changers  for  the  purpose  of 
exchanging  the  coins  they  had  for  others  they  desired.  While 
this  service  is  sometimes  furnished  by  modern  banks,  it  has  long 
since  become  of  very  minor  importance. 

Exchange,  as  used  in  connection  with  the  work  of  a  modern 
commercial  bank,  indicates  the  transfer  of  funds  from  one  person 
to  another  whether  Hving  in  the  same  community  or  in  places 
widely  separated.  This  is,  as  Hartley  Withers  calls  it,  exchange 
of  money  here  and  now  for  money  at  some  other  point  and  some 
other  time.  If  the  identity  of  exchange  operations  with  transfers 
of  funds  be  kept  in  mind,  it  will  be  clear  that  the  activities  dis- 
cussed in  Chapters  VII  to  XV  are  all  connected  with  the  same 
function — that  of  providing  facilities  for  exchange.  The  methods 
and  machinery  of  exchange  are  sufficiently  discussed  in  those 
chapters,  but  it  is  desirable  to  consider  the  forms  taken  by  the 
media  of  exchange  which  are  furnished  by  the  banks.  These 
media  may  be  divided  into  two  main  classes:  bank  notes  and 
deposit  currency.  Bank  notes  may  again  be  divided  into  two 
classes:  those  issued  by  the  national  banks,  and  those  issued 
through  member  banks  by  the  federal  reserve  bank. 

National  Bank  Notes. — Banks  which  are  chartered  by  the 
Comptroller  of  the  Currency  as  national  banks  are  permitted  to 
issue  notes  by  depositing  with  the  Treasury  Department  of  the 
United  States  an  amount  of  United  States  government  bonds  of 
specified  character  equal  to  the  amount  of  notes  to  be  issued. 
These  bonds  are  held  by  the  Treasury  Department  as  security 


48  BANKING  PRACTICE  [III 

for  the  payment  of  the  notes.  So  long  as  the  bank  lives  up  to  the 
contract  expressed  when  it  issues  the  notes — that  it  will  redeem 
each  note  at  par  in  lawful  money  on  demand — the  bonds  remain 
the  property  of  the  bank  although  they  are  kept  as  security  by 
the  Treasury  Department.  If,  however,  a  bank  fails  or  for  any 
other  reason  refuses  to  pay  cash  for  its  notes  upon  demand,  the 
government  bonds  deposited  as  security  are  sold  and  the  money 
thus  obtained  is  used  to  redeem  the  outstanding  notes.  At  all 
times  the  issuing  bank  must  maintain  a  redemption  fund  in  gold 
amounting  to  5  per  cent  of  its  outstanding  notes  at  the  Treasury 
Department,  to  redeem  notes  which  may  be  presented  for  cash. 

Advantages  and  Disadvantages  of  National  Bank  Notes  as  a 
Medium  of  Exchange. — The  notes,  uniform  in  appearance,  and 
closely  resembling  the  paper  money  issued  by  the  government, 
are  issued  by  the  Comptroller  of  the  Currency.  They  are  main- 
tained at  par  because  of  the  fact  that  they  will  be  redeemed  by 
the  banks  themselves  or  by  the  Treasury  Department  and  because 
they  are  secured  by  the  deposit  of  an  amount  of  government 
bonds  equal  to  or  greater  than  the  notes  outstanding.  Thus,  the 
advantages  obtained  from  the  use  of  national  bank  notes  are: 
uniformity  in  appearance,  unquestioned  soundness,  and  greater 
convenience  for  use  in  making  large  payments  than  is  the  case 
with  metallic  money.  They,  however,  lack  in  one  important 
particular.  As  such  notes  are  based  on  government  bonds  and 
therefore  have  no  immediate  connection  with  business,  they  do 
not  expand  or  contract  in  accordance  with  the  needs  for  currency. 
The  country  has  on  this  account  suffered  alternately  from  the 
disadvantages  of  redundancy  and  scarcity  in  the  medium  of  ex- 
change. To  increase  the  elasticity  of  the  currency  a  new  method 
of  note  issue  has  been  established  by  the  Federal  Reserve  Act. 

Federal  Reserve  Notes. — Federal  reserve  notes  are  issued 
through  the  member  banks  on  the  security  of  commercial  paper 


Ill]  THE  BANK  AS  A  GOING  CONCERN  49 

or  loans  made  to  merchants,  manufacturers,  and  traders.  They 
can  be  issued  only  upon  the  application  of  a  member  bank  which 
submits  such  commercial  paper  for  rediscount.  The  maximum 
amount  that  may  be  issued  is  determined  by  the  Federal  Reserve 
Board.  These  notes,  being  connected  directly  with  the  demands 
of  the  business  world,  expand  and  contract  according  to  needs. 
For  example,  if  business  is  active  and  there  is  a  great  demand 
upon  a  local  national  bank  for  funds,  such  a  bank  can  take  to  the 
federal  reserve  bank  of  its  district  some  of  the  loans  previously 
made  by  it  and  can  obtain  federal  reserve  notes  equal  to  the  value 
of  the  commercial  paper.  These  notes  are  uniform  in  appearance 
and  look  like  paper  money.  The  borrowing  bank  thus  has  a  new 
supply  of  notes  which  take  the  place  of  money  and  which  may  in 
their  turn  be  loaned  to  local  borrowers.  The  borrowing  bank 
profits  by  the  difference  in  the  rate  of  interest  which  it  charges 
the  borrower  and  the  rate  which  it  must  pay  to  the  federal  reserve 
bank  for  accommodation.  Since  both  the  local  borrower  and  the 
bank  pay  interest  on  this  amount  while  the  notes  are  outstanding, 
the  borrowing  will  not  take  place  unless  the  activity  of  business 
makes  it  profitable  to  use  such  funds.  Furthermore,  if  after  the 
notes  have  been  borrowed  the  debtor  no  longer  needs  them,  he 
brings  them  back  immediately  for  cancellation  so  as  to  stop  the 
interest  which  is  accumulating  on  them.  Hence  there  is  a  more 
or  less  automatic  adjustment  between  the  supply  of  federal 
reserve  notes  and  the  demands  of  business. 

Security  of  Federal  Reserve  Notes. — The  safety  of  these  notes 
is  guaranteed  first  by  the  deposit  of  lOO  per  cent  of  their  value  in 
commercial  paper  which  is  indorsed  and  therefore  is  the  obliga- 
tion of  a  member  bank;  by  the  further  deposit  of  40  per  cent  in 
gold  which  the  reserve  bank  must  set  aside  for  every  issue  of 
federal  reserve  notes;  by  the  assets  of  the  issuing  bank  upon  which 
the  note-holders  have  a  prior  lien;  and  finally,  by  the  fact  that  the 
notes  are  obligations  of  the  United  States  government.    Their 


50  BANKING  PRACTICE  [III 

redemption  is  provided  for  by  requiring  each  reserve  bank  to 
redeem  all  notes  issued  by  itself  as  well  as  those  issued  by  any 
other  reserve  bank.  A  gold  fund  amounting  to  5  per  cent  of  the 
outstanding  issue  of  notes  is  maintained  at  the  Treasury  Depart- 
ment to  redeem  such  notes  as  may  be  presented  there.  The 
federal  reserve  notes  have  all  the  advantages  possessed  by  na- 
tional bank  notes  and  have  in  addition  the  virtue  of  elasticity. 

Federal  Reserve  Bank  Notes. — The  federal  reserve  banks  may 
issue  also  federal  reserve  bank  notes.  These  are  notes  based 
upon  the  deposit  of  government  bonds,  and  in  their  issue  and 
regulation  resemble  national  bank  notes.  The  purpose  of  per- 
mitting the  federal  reserve  banks  to  issue  these  bank  notes  is  to 
prevent  a  too  rapid  decrease  in  the  paper  currency  of  the  country, 
which  might  occur  if  national  banks  should  reduce  their  holdings 
of  United  States  bonds  and  thereby  contract  the  volume  of 
national  bank  notes  outstanding. 

Deposit  Currency. — The  other  type  of  medium  of  exchange  is 
the  deposit  currency  provided  by  any  commercial  bank.  Deposit 
currency  is  the  name  given  to  the  negotiable  instruments,  chiefly 
checks,  which  are  used  to  make  payments  by  transferring  balances 
on  the  books  of  the  bank  from  one  individual  to  another.  By  far 
the  greatest  proportion  of  commercial  transactions  are  settled 
by  means  of  checks  or  deposit  currency.  The  banks  provide  this 
currency  just  as  readily  as  they  provide  bank  notes  or  federal 
reserve  notes.  While  note  issues  are  limited  to  specified  banks, 
as  has  been  indicated,  all  commercial  banks  which  receive  de- 
posits and  allow  checks  to  be  drawn  upon  them  are  providing 
deposit  currency.  The  deposit  upon  which  checks  are  drawn 
may  consist  of  actual  money,  or  its  equivalent,  brought  in  by  the 
customer  and  credited  to  his  account,  or  it  may  be  created  in  a 
sense  by  the  granting  of  a  loan  by  the  bank,  the  proceeds  of  which 
loan  furnish  the  ledger  balance  upon  which  the  checks  are  drawn 


Ill]  THE  BANK  AS  A  GOING  CONCERN  51 

Relative  Advantages  of  Deposit  Currency  and  Bank  Notes. — 
It  is  usually  a  matter  of  indifference  to  the  banker  whether  he 
provides  bank  notes  or  deposit  currency  as  a  medium  of  exchange, 
for  he  collects  the  same  rate  of  interest  on  the  credit  which  he 
extends  in  either  form,  and  his  obligation  to  pay  lawful  money 
on  demand  is  the  same  in  either  case.  As  compared  with  bank 
notes,  deposit  currency  has  certain  advantages  and  certain  dis- 
advantages from  the  standpoint  of  the  public.  The  two  forms  of 
currency  are  equally  satisfactory,  in  that  they  provide  a  con- 
venient method  of  transporting  large  sums  of  money.  Checks 
have  an  advantage  over  bank  notes,  however,  because  they  can 
be  drawn  for  any  amount,  whereas  bank  notes  are  issued  in  fixed 
denominations.  Another  advantage  of  the  check  is  that  in  case 
of  loss  payment  may  be  stopped  by  the  maker  and  a  new  check 
may  be  issued  to  transfer  the  funds,  whereas  in  case  of  a  loss  of 
bank  notes,  since  the  notes  are  payable  to  bearer  without  any 
necessity  for  indorsement  or  identification,  the  one  who  has  lost 
them  is  usually  unable  to  obtain  recompense.  On  the  other  hand, 
while  deposit  currency  is  more  elastic  than  national  bank  notes 
and  adjusts  itself  to  the  needs  of  the  commercial  world  as  readily 
as  federal  reserve  notes,  it  is  at  a  disadvantage  as  compared  with 
bank  notes  and  federal  reserve  notes  because  checks  drawn  on  a 
given  bank  do  not  readily  circulate  over  as  wide  an  area  as  do 
bank  notes.  The  reasons  for  this  are  twofold:  first,  checks  do 
not  look  as  much  like  government  paper  money  as  do  either 
national  bank  notes  or  federal  reserve  notes,  and  hence  they  are 
not  accepted  as  readily  by  many  persons  who  are  not  in  touch 
with  banking  institutions.  Secondly,  bank  notes  have  back  of 
them  the  guarantee  both  of  the  issuing  bank  and  of  the  govern- 
ment that  they  will  be  redeemed  on  presentation,  whereas  a 
check  drawn  upon  the  bank  balance  of  an  individual  is  good  or 
not  according  to  the  financial  standing  of  the  maker.  Since  the 
maker  of  a  check  is  ordinarily  not  known  over  a  very  wide  area, 
his  checks  are  likely  to  be  accepted  only  within  the  restricted 


52  BANKING  PRACTICE  {III 

region  within  which  he  is  known,  and  only  by  the  people  who 
know  him. 

The  Loaning  Function. — The  third  main  function  which  it 
is  noted  the  bank  performs  in  its  operation  is  that  of  making 
loans.  This  function  is  of  great  importance  to  an  industrial 
society.  In  making  loans  the  bank  acts  both  as  an  intermediary 
between  borrowers  and  lenders,  and  as  a  manufacturer  of  the 
credit  which  it  extends  to  the  borrower.  In  the  first  relationship 
the  banker  serves  as  a  specialist  in  credit.  He  obtains  from  a 
large  number  of  persons  deposits  of  sums  for  which  they  have  no 
immediate  need,  and  in  turn  he  loans  these  in  various  amounts  to 
borrowers.  Very  few  individuals  having  small  sums  of  money 
which  might  be  available  for  lending  purpost .,  have  any  knowl- 
edge of  the  persons  who  are  desirous  of  using  such  funds;  nor 
have  they  any  knowledge  of  the  credit  standing  of  most  of  these 
borrowers.  The  banker  therefore  performs  a  very  real  service  by 
collecting  the  scattered  sums  available  for  lending  and  putting 
them  in  the  hands  of  those  persons  who  are  entitled  by  reason  of 
their  ability  and  standing  to  use  them. 

The  great  bulk  of  the  loans,  however,  grow  out  of  the  creation 
of  deposit  balances  for  the  benefit  of  borrowers,  as  described 
earlier  in  this  chapter.  Through  these  loaning  operations,  banks 
finance  the  transformation  of  raw  materials  into  finished  goods  and 
enable  merchants  and  traders  to  carry  them  until  they  ultimately 
find  their  way  into  the  hands  of  consumers.  If  one  considers  the 
extent  to  which  persons  at  various  stages  in  the  production  of  a 
given  commodity,  from  the  raw  to  the  finished  state,  make  use  of 
credit  to  get  possession  of  materials  and  to  postpone  paying  for 
them  until  the  goods  have  actually  been  passed  to  the  next  person 
in  the  line  of  production  and  the  money  has  been  received  for 
them,  he  will  realize  what  an  important  part  the  lending  opera- 
tions of  a  bank  play  in  the  carrying  on  of  the  world's  busmess. 
The  importance  of  the  bank  in  the  economic  scheme  might  be 


Ill]  THE  BANK  AS  A  GOING  CONCERN  53 

figuratively  indicated  by  saying  that  the  bank  in  the  exercise  of 
the  loaning  function  acts  as  a  sort  of  moving  belt  or  platform 
carrying  the  burden  of  production  from  one  stage  to  another  in 
the  industrial  process. 

The  Fiduciary  Function. — The  fourth  main  bank  service — 
that  of  acting  in  a  fiduciary  capacity — represents  the  assumption 
of  duties  which  have  gradually  come  to  commercial  banks.  Since 
banks  are  entrusted  with  the  funds  and  valuable  papers  of  the 
community,  and  since  on  account  of  the  nature  of  their  business 
they  have  become  familiar  with  various  types  of  investment  and 
with  financial  procedure,  it  is  natural  that  the  public  should  more 
and  more  look  to  *^^hem  for  advice.  It  is  also  natural  that  they 
should  be  entrusted  with  carrying  out  the  wishes  of  persons  who 
plan  to  make  financial  provisions  after  their  death  for  individuals 
or  institutions.  Furthermore,  in  financial  transactions  between 
large  business  enterprises  on  the  one  hand  and  thousands  of  in- 
dividuals on  the  other  hand,  it  is  necessary  that  some  trustworthy 
and  responsible  third  party  be  available  who  will  see  that  both 
groups  in  the  transaction  are  given  proper  consideration,  and  it 
is  most  natural  that  banks  should  be  chosen  for  this  purpose. 
The  various  types  of  fiduciary  and  representative  services  of 
financial  institutions  are  discussed  in  subsequent  chapters. 

The  Accounting  Operations  of  a  Bank. — In  carrying  on  the 
operations  which  center  in  these  four  main  lines  of  service  which 
the  bank  sells,  certain  records  must  of  necessity  be  kept.  The 
essential  purpose  of  the  records  or  accounting  of  a  bank  is  to 
furnish  information  concerning  the  relations  that  exist  at  any 
time  between  the  bank  and  its  customers.  Since  the  bank  is 
debtor  to  many  individuals  and  creditor  to  many  others,  it  is 
necessary  that  ledger  accounts  be  kept  to  indicate  the  status  of 
each  individual  and  his  relationship  with  the  bank  at  a  given  time. 
Another  type  of  information  required  by  the  bank  managers  is 


54  BANKING  PRACTICE  [III 

that  which  is  in  the  nature  of  an  inventory.  The  bank  has  many 
things  of  value  belonging  to  itself  and  to  others.  These  coi.sist 
of  cash,  stocks,  bonds,  real  estate,  warehouse  receipts,  and  various 
other  forms  of  property.  Records  showing  the  property  on  hand 
and  indicating  the  ownership  must  likewise  be  kept.  Further- 
more, the  bank  is  engaged  in  business — it  seeks  to  make  a  profit. 
It  is  therefore  in  receipt  of  an  income  and  is  constantly  incurring 
expenses  for  operation.  For  the  benefit  of  its  shareholders  infor- 
mation is  needed  as  to  the  progress  which  the  bank  has  made 
from  one  period  to  another.  Records  such  as  balance  sheets  must 
therefore  be  prepared  to  furnish  information  as  to  the  status  of 
the  institution  at  various  times. 

Besides  these  records  which  are  required  for  the  purpose  of 
obtaining  information  concerning  the  bank's  business,  there  are 
certain  other  accounting  operations  which  are  carried  on  for  the 
purpose  of  verifying  and  checking  over  the  work  that  has  already 
been  done.  For  example,  a  complete  set  of  duplicate  ledgers 
may  be  kept  merely  to  check  up  the  information  which  has  been 
recorded  in  a  similar  series  of  ledgers.  A  large  part  of  the  book- 
keeping or  recording  which  is  performed  in  a  bank  is  of  this  na- 
ture. The  necessity  for  accuracy  in  a  bank's  records  is  so  great 
that  very  elaborate  systems  of  duplication  and  proof  are  adopted. 
Obviously  the  complexity  of  a  bank's  accounting  system  varies 
with  the  character  and  volume  of  its  business,  but  all  banks  must 
record  in  some  form  the  three  types  of  information  which  have 
been  indicated.  The  status  of  the  bank  and  the  results  of  all  of 
its  operations  are  finally  summarized  in  the  bank  statement, 
which  shows  in  total  the  bank's  relations  to  its  shareholders,  de- 
positors, and  other  creditors  on  the  one  hand,  and  its  valuable 
property  and  claims  against  debtors  on  the  other  hand. 

Similarity  in  the  Work  of  Large  and  Small  Banks.— In  dis- 
cussing in  detail  the  operations  of  a  modern  commercial  bank,  it 
must  be  remembered  that  while  the  work  of  a  large  metropolitan 


Ill]  THE  BANK  AS  A  GOING  CONCERN  55 

bank  is  more  varied  and  more  complicated  than  that  of  a  small 
town  bank,  there  is  in  essence  close  similarity  between  them.  The 
apparent  differences  in  organization  and  procedure  grow  chiefly 
out  of  the  minute  division  of  labor  necessitated  by  the  larger 
volume  of  business  transacted  by  the  metropolitan  bank.  A 
great  many  of  the  records  and  processes  of  a  large  bank  which 
are  unfamiliar  to  those  accustomed  to  small  bank  operations,  are 
merely  methods  of  dividing  and  checking  up  the  work  which  is 
performed  by  one  man  and  covered  in  one  process  in  the  smaller 
bank.  There  is  also  complete  unity  in  these  operations.  Just  as 
in  a  fighting  army  there  are  thousands  of  persons  behind  the  firing 
line  who  are  not  actually  engaged  in  the  fighting  but  who  are 
nevertheless  absolutely  essential  to  that  fighting,  so  in  the  large 
bank  there  are  many  employees  who  seem  to  have  no  connection 
with  the  furnishing  of  these  four  types  of  service  which  the  banks 
sell.  These  employees,  nevertheless,  are  all  carrying  on  opera- 
tions which  are  performed  for  the  sole  purpose  of  aiding  either 
in  receiving  deposits,  providing  facilities  for  exchange,  lending 
money,  or  acting  in  a  fiduciary  capacity. 


CHAPTER   IV 

OVER-THE-COUNTER   RECEIPTS 

The  Receiving  Function — Origin  of  Deposits.^ — The  receiving 
operations  in  their  broadest  sense  include  all  activities  connected 
with  the  bank's  acceptance  of  sums  of  money  or  its  equivalent — 
that  is,  checks  or  other  items  which  may  be  converted  into  money 
— for  credit  to  the  accounts  of  its  customers. 

There  are  three  channels  through  which  deposits  to  be  credited 
to  customers'  accounts  come  into  the  receiving  teller's  depart- 
ment. They  may  be  presented  "over  the  counter" — that  is,  by 
personal  delivery  by  the  customer  or  his  representative  at  the 
receiving  teller's  window.  They  may  be  sent  in  by  mail,  tele- 
graph, or  express,  in  which  event  they  sometimes  go  through  hands 
other  than  those  of  the  receiving  teller,  as  for  example,  the  mail  de- 
partment employees.  Or  finally,  they  may  originate  in  various 
other  departments  of  the  bank,  such  as  the  collection  department 
or  the  loan  department.  Whatever  their  origin,  all  receipts  to  be 
credited  to  the  accounts  of  the  bank's  customers  represent  receiv- 
ing operations  although  the  transactions  may  be  handled,  for  the 
sake  of  convenience,  by  employees  other  than  the  receiving  tellers. 

Cash  Items  and  Collection  Items. — The  materials  handled  in 
the  receiving  operations  may  be  divided  into  two  main  classes: 
cash  and  cash  items,  and  collection  items.  In  a  small  bank  both 
classes  are  accepted  and  receipted  for  by  the  same  person,  but  in 
large  institutions  the  receiving  teller  accepts  only  cash  items. 
Included  in  this  term  are  currency,  checks  (except  under  certain 
conditions),  sight  drafts,  certified  checks,  and  coupons  from 
United  States  bonds.  Sometimes  other  items  may,  by  special 
arrangement,  be  received  on  a  cash  basis. 

56 


tV]  OVER-THE-COUNTER  RECEIPTS  57 

The  chief  distinction  between  cash  items  and  collection  items 
is  that  the  former  are  received  for  immediate  credit  against  which 
the  depositor  may  draw  his  own  checks,  whereas  the  latter  are 
received  subject  to  collection,  the  bank  acting  merely  as  an  agent 
for  the  depositor.  The  depositor's  account  is  not  credited  and  of 
course  he  cannot  draw  against  the  item  until  the  funds  have  actu- 
ally come  into  the  possession  of  the  bank.  The  method  and 
machinery  for  handling  collection  items  are  described  elsewhere 
in  this  book;  in  this  discussion  of  the  receiving  operations  atten- 
tion will  be  confined  to  cash  and  cash  items. 

Relation  between  Deposits  and  Loans — The  Cash  Reserve. — 

The  relation  between  the  receiving  operations  and  the  other 
operations  of  a  bank  are  very  close.  One  of  the  most  important 
relations  is  that  between  deposits  and  loans.  The  usual  state- 
ment is  that  loans  increase  deposits,  since  in  most  cases  the  bor- 
rower does  not  desire  money  in  exchange  for  his  promissory  note 
— taking  instead  credit  on  the  books  of  the  bank.  Hence  an 
increase  in  the  loans  of  the  bank  is  nearly  always  reflected  in  an 
increase  of  deposits.  But  deposits  cannot  be  increased  indefin- 
itely merely  by  an  increase  in  loans.  Every  time  the  deposit 
balance  of  a  customer  is  increased,  the  strain  on  the  bank's  cash 
reserve  is  increased,  since  the  customer  has  a  legal  right  to  pre- 
sent his  check  and  demand  the  full  amount  of  his  balance  in  cash 
at  any  time.  It  would  be  perhaps  more  precise  to  say  that  loans 
increase  deposit  liability  rather  than  that  they  increase  deposits. 
The  amount  of  deposit  liability  that  the  bank  can  build  up  by 
means  of  loans  is  limited  by  its  stock  of  cash  either  in  its  vaults  or 
subject  to  its  call.  Both  law  and  sound  banking  practice  require 
the  maintenance  of  a  sufhcient  stock  of  cash  to  meet  any  ordinary 
demands  which  may  be  made  by  depositors.  This  stock  is  called 
the  cash  reserve.  One  of  the  main  sources  from  which  the  cash 
reserve  is  supplied  and  replenished  is  the  receiving  teller's 
department. 


58  BANKING  PRACTICE  [IV 

The  above  statement  applies,  of  course,  to  the  individual 
bank,  and  not  to  the  banking  system  as  a  whole.  When  cash  or 
checks  on  other  banks  are  deposited  in  a  given  bank,  its  cash  re- 
serve is  increased  at  the  expense  of  other  banks  save  in  so  far  as 
the  money  deposited  has  come  from  hoards  or  represents  a  reduc- 
tion in  the  amount  of  currency  in  circulation.  Except  under  these 
two  conditions,  the  only  way  to  increase  the  cash  reserves  of  the 
banking  system  as  a  whole  is  to  reduce  loans  or  to  obtain  a  larger 
share  of  the  world's  stock  of  gold  by  selling  securities  and  com- 
modities abroad. 

Relation  to  Other  Phases  of  Bank  Activity. — The  receiving 
operations  are  also  related  to  the  other  activities  of  the  bank — the 
paying  teller  is  engaged  mainly  in  paying  cash  according  to  the 
orders  of  the  depositors  in  his  bank;  the  transfer  of  money  from 
one  person  to  another  and  from  one  place  to  another  (exchange 
activities)  is  effected  by  increasing  and  decreasing  deposit  bal- 
ances in  the  banks  involved  in  the  transfer;  the  collecting  activi- 
ties have  for  their  purpose  usually  the  obtaining  of  cash  to  be 
credited  to  a  customer's  account;  and  the  bookkeeping  or  record- 
ing operations  obtain  a  large  part  of  the  material  with  which  they 
work  from  the  receiving  teller. 

The  Function  of  the  Teller.— The  word  "teller"  which  origin- 
ally signified  one  who  counts  or  reckons,  has  come  to  be  used  in  a 
wider  sense  in  banking  circles.  While  it  still  is  true  that  one  of  the 
functions  of  a  modern  bank  teller  is  to  count  money,  he  by  no 
means  devotes  all  his  time  to  this  sort  of  work,  nor  is  he  the  only 
one  of  the  bank  employees  who  performs  such  tasks.  However, 
it  is  accurate  enough  to  say  that,  so  far  as  the  steady  customer  of 
the  bank  is  concerned,  the  chief  activity  of  the  two  people  with 
whom  he  always  associates  the  title  of  teller — that  is,  the  receiving 
and  the  paying  tellers — is  to  count  and  check  up  the  money  as  it 
goes  either  into  or  out  of  the  bank. 


IV]  OVER-THE-COUNTER  RECEIPTS  59 

Receiving  and  Paying — The  "  Unit  "  System. — In  the  small 
bank  or  bank  of  moderate  size,  there  is  frequently  no  distinction 
between  those  who  receive  and  those  who  pay  money.  The  same 
persons  at  one  time  receive  and  at  another  time  pay  money. 
But  in  a  large  bank  the  work  both  of  receiving  and  paying  is  so 
heavy  that  experience  has  shown  the  desirability  of  allowing 
certain  men  to  specialize  in  one  function  and  other  men  to  special- 
ize in  the  other. 

In  some  large  banks  the  division  of  labor  has  been  carried  out 
in  a  slightly  different  manner.  Instead  of  restricting  the  teller  to 
one  function  only,  the  division  is  made  in  the  ranks  of  the  cus- 
tomers and  each  teller  performs  both  functions  but  deals  only 
with  a  Hmited  number  of  people.  These  customers  are  grouped 
alphabetically,  and  all  persons  whose  names  are  included  in  a 
certain  alphabetical  range  transact  all  their  business  with  one 
teller,  who  both  receives  and  pays  money  for  members  of  the 
particular  group.  This  is  known  as  the  "unit  system."  In  the 
great  majority  of  large  banks,  however,  the  division  is  made  on 
the  basis  of  separation  of  function  between  receiving  and  paying. 

The  Receiving  Teller's  Work. — The  usual  duties  of  a  receiving 
teller  may  be  said  to  include  four  processes:  (i)  receiving  and 
verifying  the  deposits;  (2)  giving  proper  receipt  for  the  same; 
(3)  distributing  the  various  items  deposited;  and  (4)  checking  up 
and  proving  the  day's  work. 

The  volume  of  work  handled  by  the  receiving,  or  second 
teller's  department  varies  not  only  with  the  size  of  the  bank  but 
more  particularly  with  the  nature  of  the  business  done.  Thus  a 
bank  with  a  large  number  of  local  tradesmen  and  manufacturers 
as  depositors  will  have  a  much  larger  number  of  transactions  for 
its  receiving  teller  to  handle  than  will  a  bank  whose  depositors 
are  mainly  out-of-town  banks  who  are  using  the  metropolitan 
institution  as  a  correspondent.  In  the  latter  case  the  bulk  of  the 
deposits  come  to  the  bank  by  mail  or  express. 


6o  BANKING  PRACTICE  [IV 

The  Deposit  Slip. — Before  making  his  deposit,  the  customer, 
who  is  in  most  cases  familiar  with  the  regukitions  of  the  bank  as 
to  the  conditions  under  which  it  will  accept  items  as  cash,  in- 
dorses his  negotiable  instruments  (checks  and  drafts) ,  counts  his 
money,  and  prepares  a  deposit  slip.  One  of  the  most  important 
duties  of  the  teller  is  to  verify  the  deposit  slip  so  that  no  error  will 
be  made  in  giving  the  customer  credit  for  the  amount  of  his  deposit. 

Receiving  Teller's  Responsibility. — The  usual  sources  of 
error  connected  with  receiving  deposits  are :  errors  in  counting  the 
money  deposited;  the  presence  of  counterfeit  or  badly  mutilated 
money;  errors  in  the  addition  of  deposit  slips;  carelessness  or  error 
in  designating  the  account  to  be  credited — for  example,  a  deposit 
slip  representing  a  credit  for  the  account  of  John  J.  Smith  might 
be  headed  merely  "John  Smith"  or  "J.  J.  Smith,"  whereas  the 
bank  might  have  other  accounts  under  similar  names.  If  the 
deposit  were  credited  to  the  wrong  account,  much  trouble  might 
later  ensue  for  the  bank. 

Again,  there  may  be  defects  in  the  negotiable  instruments 
deposited.  The  more  common  defects  concern  the  signature,  the 
indorsement,  the  date,  and  the  quality.  As  to  signature,  if  the 
item  is  one  signed  apparently  by  one  of  the  bank's  depositors,  it 
must  be  determined  that  it  is  valid,  i.  e.,  not  a  forgery;  or,  in  case 
of  a  corporate  account,  that  it  is  signed  by  the  person  authorized 
to  sign.  The  items  should  be  indorsed  first  by  the  person  to  whom 
they  are  made  payable,  and  second  by  the  bank's  customer  if  he 
is  not  the  original  payee.  This  indorsement  gives  the  bank  a 
sufficient  record  of  the  item,  so  that  if  any  difficulty  concerning 
its  payment  later  arises,  the  bank  can,  by  referring  to  the  indorse- 
ments, determine  immediately  from  whom  it  received  the  item 
and  to  whom  it  should  look  for  reimbursement. 

Postdated  Checks,  Stale  Checks,  Duplicates. — In  the  matter 
of  date,  care  must  be  exercised  to  see  that  the  check  or  other  item 


IV]  OVER-THE-COUNTER  RECEIPTS  6l 

is  payable  at  the  time  presented ;  that  it  is  not  postdated — dated 
some  days  later  than  the  day  of  presentation.  On  the  other  hand, 
''stale"  checks — checks  which,  to  judge  from  the  date,  have  been 
outstanding  for  a  long  time  since  originally  issued — must  be 
watched  for.  In  such  cases  it  is  usually  desirable  to  ascertain, 
before  crediting  the  item  to  the  depositor's  account,  whether  it  is 
still  valid,  inasmuch  as  many  things  may  have  occurred  since  its 
issue  to  make  its  payment  doubtful.  The  maker  may  have 
stopped  payment  on  the  item;  he  may  have  issued  a  duplicate 
which  has  already  been  paid;  his  bank  balance  may  have  been 
attached ;  or  he  may  have  withdrawn  all  or  most  of  his  funds  on 
the  assumption  that  all  his  checks  have  long  since  been  paid. 

Stop-Payments — Attached  Accounts. — Finally,  the  quality 
of  the  item  must  be  established.  Checks,  or  other  cash  items,  may 
not  be  good,  because  either  the  maker  has  no  account,  or,  if  he 
has  an  account,  does  not  have  sufhcient  funds  to  pay  the  checks 
when  presented  to  the  bank  upon  which  they  are  drawn.  Again, 
an  item  may  be  of  no  value  because  payment  has  been  stopped. 
A  stop-payment  order  is  an  order  given  by  a  depositor  to  his 
bank  directing  it  to  refuse  payment  of  a  certain  item,  the 
number,  amount,  date,  and  payee  of  which  he  designates  in 
the  order. 

The  causes  for  the  order  may  be  various;  the  maker  may  have 
changed  his  mind  and  decided  not  to  pay  the  amount;  there  may 
have  been  some  dissatisfaction  with  the  goods  or  services  in  ex- 
change for  which  the  check  was  given;  or  the  item  may  have  been 
lost  or  stolen  and  he  may  have  issued  a  dupHcate  check  which  he 
desires  to  have  paid  instead  of  the  original.  The  maker  of  a  check 
may  stop  payment  of  his  items  at  any  time  before  his  bank  has 
actually  paid  them,  and  the  bank  is  required  to  carry  out  his 
orders.  Accordingly  the  bank  keeps  a  record  of  all  stop-payment 
orders  and  its  employees  are  constantly  on  the  alert  to  see  that  no 
items  are  paid  which  its  customers  have  ordered  not  to  be  paid. 


62  BANKING  PRACTICE  .         [IV 

If  the  items  deposited  are  payable  at  other  institutions  in  which 
the  receiving  teller  does  not  know  that  payment  has  been  stopped, 
they  are  received  only  subject  to  payment  by  the  bank  upon 
which  they  are  drawn. 

Still  another  cause  rendering  the  payment  of  an  item  impos- 
sible is  the  attachment  of  the  maker's  account.  For  various 
reasons  the  court  may  direct  a  bank  to  hold  the  balance  in  a  cer- 
tain customer's  account  subject  to  its  orders,  in  which  event,  of 
course,  the  depositor  himself  has  no  control  over  the  account  and 
any  drafts  made  upon  it  by  him  must  be  dishonored  by  the 
bank. 

Alterations  of  Checks. — Finally,  care  must  be  taken  to  see 
that  the  cash  items  deposited  have  not  been  altered  in  any  respect. 
The  chief  dangers  in  this  connection  are  that  the  original  amount 
of  the  item  may  be  raised  or  that  the  date  may  be  altered  so  as  to 
make  payable  immediately  an  item  which  the  maker  intended 
to  have  paid  at  some  future  date. 

It  is  obvious  that  it  is  physically  impossible  for  one  man  to 
exercise  close  supervision  over  all  the  material  passing  through 
his  hands  if  the  number  of  items  is  large.  To  facilitate  the  han- 
dling of  deposits  in  a  large  city  bank,  the  burden  of  making  these 
examinations  is  shifted  to  others  in  the  receiving  teller's  depart- 
ment and  to  those  who  record  and  transmit  the  material  after  it 
has  passed  through  the  receiving  teller's  hands.  Thus  the  proving 
force  of  the  receiving  department  verifies  the  accuracy  of  the 
deposit  slips.  The  bookkeepers  are  responsible  for  detecting  all 
checks  which  cannot  be  paid  because  of  stop-payment  orders, 
insufficient  funds,  forgeries,  alterations,  and  missing  indorsements. 
The  money  department  examines  all  money  received.  Under 
such  a  system  the  receiving  teller  looks  only  for  those  defects  at 
the  window  which  cannot  readily  be  discovered  afterwards,  and 
he  receives  the  deposit  subject  to  correction  if  any  defect  should 
later  be  discovered. 


IV]  OVER-THE-COUNTER  RECEIPTS  63 

The  Depositor's  Receipt — Credit  Advice. — Having  accepted 
and  verified  the  deposit,  the  receiving  teller  gives  the  depositor 
a  receipt,  usually  in  the  form  of  an  entry  in  a  pass-book  or  a 
duplicate  deposit  slip.  This  receipt  is  evidence  of  a  credit  to  the 
depositor's  account,  subject  to  correction.  The  depositor  ordina- 
rily then  is  entitled  to  draw  checks  against  this  credit  and  expects 
to  have  them  honored  on  presentation  at  the  bank.  The  bank 
has  by  the  process  increased  its  holdings  of  cash  or  cash  items  to 
the  amount  of  the  deposit. 

While  a  receipt  is  usually  given  for  deposits,  as  just  described, 
banks  receive  some  deposits  which  require  different  treatment. 
For  example,  a  city  bank  may  receive  from  an  out-of-town 
correspondent  a  shipment  of  currency  for  credit  to  the  corre- 
spondent's account.  For  such  a  shipment  acknowledgment  is 
made  by  means  of  a  letter  advising  the  receipt  and  credit.  Often, 
too,  deposits  are  made  by  one  party,  with  the  request  that  a 
special  advice  of  such  deposits  be  sent  to  another  party.  The 
most  numerous  deposits  in  this  class  are  those  of  branch  offices 
and  agents  of  various  large  enterprises,  such  as  a  railroad  com- 
pany, the  main  office  of  which  desires  to  keep  an  independent 
record  of  the  receipts  of  branches  and  agents. 

Certificates  of  Deposit.- — Among  the  most  important  receipts 
which  are  issued  by  many  banks  are  the  certificates  of  deposit, 
or  deposit  receipts,  as  they  are  sometimes  called.  A  certificate  of 
deposit  is  a  receipt  given  for  a  deposit  which  has  been  accepted 
by  a  bank  under  special  agreement.  The  conditions  under  which 
withdrawal  may  be  made,  the  rate  of  interest  to  be  paid  on  the 
deposit,  and  the  length  of  time  during  which  the  funds  are  to 
remain  in  the  possession  of  the  bank,  are  all  specified  in  the  agree- 
ment. Such  funds  are  not  subject  to  check  and  usually  may  be 
withdrawn  only  as  a  whole.  Transfer  of  ownership  of  the  deposit 
can  generally  be  made  only  on  the  books  of  the  bank.  The  varia- 
tions in  the  form  of  these  certificates  are  numerous  but  they  may 


64  BANKING  PRACTICE  [IV 

be  classified  accurately  enough  under  three  main  heads:  demand 
certificates,  definite  time  certificates,  and  indefinite  time  certi- 
ficates. 

Demand  Certificates;  Time  Certificates. — A  demand  certi- 
ficate of  deposit  (Form  i)  is  a  negotiable  instrument  made  pay- 
able at  the  option  of  the  beneficiary  upon  return  of  the  certificate. 
No  interest  is  allowed.  The  most  common  use  of  such  a  certifi- 
cate is  to  transfer  funds  in  a  manner  similar  to  the  bank  draft. 

A  definite  time  certificate  of  deposit  is  payable  upon  the 
return  of  the  certificate  properly  indorsed  after  the  expiration  of 
a  certain  period  of  time,  always  31  days  or  more.  This  minimum 
period  is  established  in  order  to  meet  the  classification  of  the 
federal  reserve  law,  which  designates  deposits  subject  to  with- 
drawal after  31  days  or  more  as  time  deposits.  Against  time  de- 
posits members  of  the  federal  reserve  system  are  required  to  carry 
only  3  per  cent  reserve,  whereas  against  other  deposits  they  must 
keep  from  7  to  13  per  cent,  depending  upon  the  location  of  the 
bank.  These  time  certificates  are  not  negotiable,  the  funds  being 
transferable  only  on  the  books  of  the  bank.  They  bear  interest 
at  a  rate  agreed  upon  between  the  banker  and  depositor,  and  are 
used  largely  for  the  temporary  investment  of  idle  funds. 

Indefinite  time  certificates  (Form  2)  are  payable  after  a  cer- 
tain number  of  days'  notice  by  the  payee,  but  only  after  a  certain 
minimum  period  of  time  has  elapsed.  While  such  certificates  are 
payable  at  the  option  of  the  holder  after  the  earliest  date  for 
payment  has  arrived,  the  bank  virtually  fixes  a  maximum  time 
during  which  the  item  is  to  remain  outstanding  by  inserting  a 
provision  that  interest  upon  the  amount  represented  by  the  certi- 
ficate shall  cease  after  a  certain  date. 

Records  and  Distribution  of  Deposits. — Certificates  of  deposit 
are  issued  upon  the  application  of  the  customer  and  with  the 
approval  of  an  officer  of  the  bank.    In  a  very  large  bank  where  a 


IV 


OVER-THE  COUNTER  RECEIPTS 


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66  BANKING  PRACTICE  [IV 

special  group  of  auditors  is  maintained  by  the  bank,  two  stubs 
may  be  prepared  with  each  certificate,  one  being  retained  by  the 
official  signing  the  certificate  and  turned  over  by  him  to  the  audi- 
tors. This  stub  enables  the  auditors  to  check  up  the  certificates 
so  as  to  make  sure  that  none  has  been  issued  without  authority. 
The  other  stub  remains  in  the  certificate  book  as  a  record  of  the 
transaction.  The  certificate  is  purchased  either  by  the  payment 
of  cash  or  by  check  on  the  customer's  account.  In  the  first  case 
cash  is  debited;  in  the  second  the  customer's  account  is  charged. 
The  Certificates  of  Deposit  account  is  credited  for  the  amount  of 
the  certificate. 

The  third  phase  of  the  receiving  teller's  work  is  the  distribu- 
tion of  the  various  materials  which  have  been  deposited.  He 
begins  and  ends  the  day  with  a  clear  desk.  The  greater  part  of  the 
work  of  distribution  is  performed  in  the  afternoon,  an  exception 
being  made  in  the  case  of  very  large  items.  Such  items  are  sent 
through  immediately  in  order  that  the  bank  may  collect  the  funds 
the  same  day  and  thus  avoid  the  loss  of  a  day's  interest  which 
would  result  if  the  items  were  not  put  through  until  the  afternoon. 

The  majority  of  the  deposits  which  come  to  the  receiving 
teller's  window  are  made  in  the  afternoon,  for  most  customers 
desire  to  wait  until  the  bulk  of  the  day's  receipts  are  in  before 
making  their  deposits.  During  the  morning  the  bookkeepers  are 
occupied  with  certain  routine  duties  and,  in  a  large  bank,  are 
posting  the  items  which  have  come  in  by  mail  and  have  been 
sorted  out  and  distributed  by  the  mail  teller's  department.  To 
aid  the  receiving  teller  during  the  afternoon  rush,  some  of  the 
clerks  from  other  departments  which  have  their  heaviest  work  in 
the  morning  are  transferred  to  assist  in  the  work  of  sorting,  prov- 
ing, and  distributing  the  day's  receipts. 

Nature  of  Materials  to  be  Disposed  of. — Bank  receipts  com- 
prise two  main  groups:  the  deposit  slips;  and  the  items  making  up 
the  deposit.    The  deposit  slips  indicate  the  amounts  to  be  credited 


IV]  OVER-THE-COUNTER  RECEIPTS  67 

to  the  customers'  accounts,  while  the  items  received  for  deposit 
are  debited  to  cash.  "Cash"  includes  not  only  money,  which  is 
the  meaning  ordinarily  ascribed  to  the  word,  but  it  includes  also 
checks  and  other  items  which  can  be  converted  into  money. 

From  time  to  time,  beginning  early  in  the  afternoon,  the  de- 
posit slips  are  sent  to  the  bookkeepers  as  rapidly  as  a  sufficient 
number  accumulate.  The  slips  are  first  sorted  into  groups  ac- 
cording to  the  subdivisions  of  the  depositors  ledgers,  and  those 
contained  in  each  group  are  sent  to  the  bookkeepers  in  charge  of 
that  ledger.  For  example,  if  one  bookkeeper  has  charge  of  the 
accounts  of  customers  whose  names  begin  with  any  letter  from 
A  to  E,  he  receives  the  deposit  slips  for  any  deposits  made  by 
such  persons.  A  triplicate  record  of  the  totals  of  these  slips  is 
sometimes  made  by  the  receiving  teller's  department.  One  of 
the  copies  is  forwarded  to  the  statement  clerks  who  post  the  cred- 
its to  the  statements  of  account  which  are  issued  at  intervals  to 
the  bank's  customers;  the  second  copy  accompanies  the  deposits 
which  it  represents  through  the  proving  process;  the  third  copy 
furnishes  information  for  a  report  to  the  general  ledger  book- 
keepers, showing  the  total  credits  sent  by  the  receiving  teller  to 
each  of  the  depositors  ledgers.  The  same  items  are  thus  posted  by 
the  individual  ledger  bookkeeper,  the  statement  clerk,  and  the 
general  ledger  bookkeeper.  This  makes  it  possible  for  the  work 
of  each  department  or  division  to  serve  as  a  check  upon  the  work 
of  the  others. 

Sorting  the  Deposit  Items.^ — The  items  which  are  listed  on  the 
deposit  slips  by  the  customers  must  be  distributed  to  the  proper 
departments  for  attention.  Hence  they  are  sorted  in  batches 
according  to  their  nature  and  the  procedure  for  handling  them. 
The  following  is  a  characteristic  sorting  (see  also  Form  3) : 

1.  Clearing  house  items — those  which  are  payable  by  banks 

that  clear  through  the  local  clearing  house. 

2.  Checks  drawn  upon  the  bank  itself. 


BANKING  PRACIICE 


IV 


9t 


Oto 


IV]  OVER-THE-COUNTER  RECEIPTS  69 

3.  Sights — sight  drafts  drawn  upon  persons  in  the  city  who 

must  be  reached  by  messenger  in  order  to  obtain  pay- 
ments. 

4.  Trusts — drafts  upon  persons  in   the  city  who  can  be 

reached  through  the  city  collection  department  of  the 
clearing  house. 

5.  Small  country  items — checks  of  less  than  $500  drawn 

on  out-of-town  banks  (in  the  afternoon  these  checks  are 
separated  from  large  country  items  because  they  are  to 
be  put  aside  for  the  night  force  of  the  transit  depart- 
ment in  order  that  the  undivided  attention  of  the  after- 
noon force  may  be  given  to  sending  out  the  larger  items). 

6.  Large    country    items— out-of-town    checks    which    are 

large  enough  to  make  it  worth  while  to  despatch  them 
for  collection  on  the  day  of  receipt. 

7.  Cash — usually  the  actual  money  is  taken  out  of  the 

deposit  and  cash  tickets  are  substituted  therefor. 

8.  Checks  drawn  upon  banks  for  which  the  bank  clears. 

9.  Large  sight  drafts— city  items  large  enough  in  size  to 

make  it  profitable  for  the  bank  to  collect  them  by 
messenger  on  day  of  receipt. 

The  Batch  or  Block  Proof.— After  sorting  the  items  in  each 
group  in  some  such  manner  as  suggested  above,  a  list  is  made  of 
the  contents  and  is  attached  to  each  group.  The  totals  for  all  the 
lists  are  added,  and  this  total,  if  no  error  has  been  made,  will 
correspond  exactly  with  the  total  of  all  the  deposit  slips  of  the 
particular  batch  which  has  been  distributed  to  the  bookkeepers. 
This  proof  is  called  a  "batch"  or  "block"  proof  (Form  4).  The 
block  or  batch  proof  offers  certain  obvious  advantages  over  a 
single  daily  proof.  It  distributes  throughout  the  day  the  work  of 
"proving"  and  thus  lightens  the  work  which  has  to  be  done  at  the 
close  of  the  day.  It  enables  the  teller  to  detect  the  existence  of 
error  within  a  comparatively  short  time  after  receiving  the  de- 


70 


BANKING  PRACTICE 


IV 


Sorted  by 
Listed  by 


Small  Countries 


Large 


Cash 


8  Sights 


H. 


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Large  Sight  Drafts 


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Form  4.     Receiving  Teller's  Batch  Proof.     (Size  5>^  x  8>^.) 

"8  Sights"  means  drafts  drawn  on  banks  for  which  this  bank  clears.  "  F  X  8  "  means  iterns 
drawn  on  the  foreign  division  of  the  bank. 


IV]  OVER-THE-COUNTER  RECEIPTS  71 

posit;  if  the  mistake  is  one  which  requires  that  the  depositor  be 
communicated  with,  it  is  to  the  advantage  of  the  bank  and  the 
depositor  that  this  be  done  as  soon  as  possible  after  the  deposit 
has  been  made.  Finally,  the  batch  proof  reduces  the  number  of 
transactions  that  must  be  rechecked  in  order  to  locate  an  error, 
and  this  method  of  proving  isolates  an  error  so  that  it  holds  up 
only  ft  relatively  small  amount  of  the  work. 

After  the  correctness  of  the  work  has  thus  been  demonstrated, 
these  various  groups  of  debit  items  are  distributed  to  the  proper 
departments  of  the  bank  for  final  record  and  disposal.  According 
to  the  foregoing  grouping  the  disposition  would  be  made  as  fol- 
lows; items  in  group  i  would  be  charged  to  the  paying  teller  as 
the  equivalent  of  cash,  but  would  be  sent  directly  to  the  assembly 
rack  to  be  prepared  for  clearing;  those  in  group  2  would  be  charged 
to  the  check  desk  and  be  sent  there  to  be  prepared  for  the  book- 
keepers; those  in  groups  3,  4,  5,  and  8  would  be  charged  to  the 
city  collection  department,  but  the  small  sight  drafts,  trusts,  and 
small  country  items  would  be  sent  to  the  transit  department 
to  be  sorted  by  the  night  force  if  the  volume  of  business  is  large 
enough  to  warrant  a  force  of  employees  for  the  day  and  the 
night;  those  in  group  6  are  charged  and  sent  to  the  transit  de- 
partment; in  group  7  the  cash  is  charged  and  sent  to  the  pay- 
ing teller. 

The  Receiving  Teller's  Daily  Proof. — The  daily  proof  of  the 
receiving  teller  (Form  5)  is  obtained  by  consolidating  the  various 
batch  proofs  in  order  to  show:  (i)  the  credits  to  all  other  depart- 
ments of  the  bank  for  the  aggregate  amounts  received  from  such 
departments;  (2)  the  debits  to  all  other  departments  for  items 
passed  to  them  during  the  day;  (3)  the  charges  which  have  been 
made  to  the  accounts  of  the  bank.  A  departmental  proof  is 
therefore  a  condensed  journal  record  of  the  entire  work  of  such 
department  for  a  given  day.  At  the  end  of  the  day's  business  the 
receiving  teller  has  cleared  his  desk.    The  total  of  all  the  deposits 


72 


BANKING  PRACTICE 


[IV 


which  he  has  received  is  balanced  by  the  sum  of  the  cash  and 
cash  items  which  he  has  passed  on  to  the  departments  that  are  to 
record  and  collect  them. 


SECOND  TEI.I.ER'S  PROOF,  ^^^/: /f^/. 

Traniit  Dept., 

^,  ^/J,53C 

J/ 

Deposits, 

M//^,>fi? 

^6^ 

Check  a«rk  No.  8, 

yZ,  7^6,yi^/W 

2J 

Paid  to  lat  Teller 

J6,r<^3 

9r 

Rec'dlrom  1st  Toller, 

"     3rd    " 

"        3rd      " 

<^J 

"     4th    " 

^/^Z,  /70 

^^ 

"        4th     " 

"     Sth    " 

Large  Sight  Drafti, 
Small  Countries, 
Sight  Draft* 
Trust  Co's, 

J'Jf ,  6j^ 
660,  z^r 

/,/^^3,J6/^ 

23 

"        Sth      " 

Clearing  House  Exchanges, 

2^,^sr,s'£f 

^z 

Total, 

^s'.r/^.y^^ 

o^ 

Total, 

^^,  //2  4^i 

^^ 

Form  5.     Receiving  Teller's  Daily  Proof.     (Size  8K  x  8K-) 

Collection  Items  in  the  Receiving  Process. — Although  the 
collecting  activities  of  a  bank  represent  a  distinct  function  and  are 
so  treated  in  this  book  they  are  in  a  sense  to  be  regarded  as  part 
of  the  receiving  operations.  For  the  most  part  collection  items 
left  with  the  bank  represent  deferred  deposits  inasmuch  as  the 
depositor  expects  to  have  the  proceeds  credited  to  his  account  as 


IVl  OVER-THE-COUNTER  RECEIPTS  73 

soon  as  they  are  available.  When  the  bank  is  advised  that  cer- 
tain collection  items  have  been  paid,  the  advice  is  usually  accom- 
panied by  a  draft  or  other  cash  item  in  settlement  of  the  proceeds. 
This  debit  is  sorted  and  handled  in  the  usual  manner  while  the 
letter  of  advice  is  made  the  basis  for  a  credit  to  the  customer's 
account. 


CHAPTER   V 

OTHER   RECEIPTS 

The  Mail  Teller  and  His  Work. — Credits  for  customers'  ac- 
counts come  to  the  bank  over  the  counter,  by  mail  and  express, 
and  as  the  result  of  transactions  in  other  departments.  The 
previous  chapter  dealt  with  the  first  class  of  receipts;  this  chapter 
will  consider  the  other  sources  of  deposits  and  the  methods  of 
handling  them. 

In  a  small  bank  the  receiving  and  acknowledging  of  deposits 
sent  in  by  mail  present  no  special  problem.  When  the  mail  has 
been  examined,  the  letters  which  contain  deposits  are  referred  to 
the  receiving  teller.  He  or  his  assistants  verify  the  contents  with 
the  letter  of  the  depositor,  make  up  a  deposit  slip  if  one  has  not 
been  enclosed,  acknowledge  receipt  of  the  remittance,  and  file 
the  original  letter  for  any  future  reference  that  may  be  necessary. 
In  a  large  bank,  particularly  an  institution  which  is  the  depositary 
for  hundreds  of  out-of-town  banks,  and  which  also  has  a  large 
number  of  foreign  customers,  the  handling  of  the  mail  becomes  a 
tremendous  task  and  requires  a  department  which  devotes  itself 
exclusively  to  taking  this  part  of  the  receiving  work  off  the  hands 
of  the  receiving  teller.  The  head  of  such  a  department  is  usually 
known  as  the  mail  teller,  or  the  fourth  teller,  and  the  functions  of 
the  department  are  to  receive,  prove,  record,  distribute,  charge, 
and  acknowledge  the  cash  items  which  come  to  the  bank  by  mail. 
Of  course  a  large  number  of  letters  are  received  each  day  which 
do  not  contain  cash  items  for  deposit,  many  of  them  pertaining 
to  a  great  variety  of  other  transactions  not  at  all  related  to  the 
receiving  operations.  These  letters  are  sorted  out  and  cUs- 
tributed  to  the  proper  departments  or  persons. 

In  banks  where  the  volume  of  mail  is  large,  a  division  is  made 

74 


V]  OTHER  RECEIPTS  75 

SO  that  the  night  mail,  the  morning  mail,  and  the  afternoon  mail 
are  each  handled  as  a  unit.  The  night  mail  consists  of  letters 
received  since  the  closing  hour  of  the  preceding  day  and  of  "hold- 
overs," or  items  retained  from  the  previous  day's  work.  The  terms 
''  morning  mail "  and  "  afternoon  mail "  are  self-explanatory.  The 
work  of  sorting  and  distributing  the  materials  which  come  by 
mail  goes  on  almost  continuously,  a  night  force  and  a  day  force 
being  engaged  in  the  work. 

Preparing  for  the  Clearing  House. — Handling  the  morning 
mail  is  the  main  event  in  the  day's  work  of  a  large  mail  teller's 
department.  Literally,  thousands  of  letters,  containing  thousands 
more  of  enclosed  items,  come  into  the  department  for  attention 
at  this  time.  Moreover  if  the  bank  wishes  to  send  the  clearing 
house  items  contained  in  the  letters  through  the  clearing  house  on 
the  day  of  receipt,  only  two  hours  are  available  for  completing  the 
whole  mass  of  work.  It  is  also  necessary  that  the  other  operating 
departments  of  the  bank  receive  their  work  from  the  morning 
mail  in  time  to  complete  it  before  the  items  of  the  receiving  teller 
begin  to  arrive  in  large  numbers.  To  meet  this  situation  the  mail 
department  expands  to  several  times  its  normal  size,  drawing 
additional  workers  from  various  departments  in  which  the  early 
morning  work  is  light. 

Opening  the  Mail. — The  mail  comes  first  to  a  force  of  openers, 
who  carefully  examine  each  letter  for  cash  enclosures.  This  force 
lays  aside  for  other  departments  those  letters  which  do  not  con- 
tain cash  items,  as  they  bear  no  further  relation  to  the  work  of  the 
mail  teller.  Each  examiner  places  a  numbered  stamp,  which  has 
been  assigned  to  him  for  the  day,  upon  the  back  of  each  letter. 
Responsibility  for  error  in  examining  the  letters  is  thus  fixed  upon 
the  one  who  made  the  examination.  After  opening  the  letters, 
the  clerks  clamp  each  cash  letter  with  its  enclosures  and  pass  it 
to  the  sorting  force. 


76  BANKING  PRACTICE  [V 

Sorting  the  Mail — The  "Rack." — The  letters  are  divided  into 
sections  corresponding  to  the  grouping  of  the  names  of  the  cus- 
tomers on  the  bank's  ledgers.  To  handle  the  work  contained  in 
each  of  these  sections,  what  is  sometimes  called  a  ''rack"  force  is 
in  operation.  The  term  "rack"  indicates  a  box  of  pigeonholes 
into  which  items  are  sorted,  but  it  has  also  come  to  be  used  to 
designate  the  work  of  sorting  items  into  the  rack.  For  example, 
the  "afternoon  rack"  and  the  "assembly  rack"  are  spoken  of. 
Each  rack  force  operates  as  a  unit.  The  work  of  the  rack  consists 
in  proving  the  letters,  sorting  the  enclosures  for  distribution 
throughout  the  bank,  and  preparing  a  proof  of  the  work  of  the 
section  as  it  is  completed  (see  Form  6).  The  letters  which  come 
into  the  bank  may  contain  only  cash  items  or  only  collection  items 
or  both.  The  collection  items  are  deducted  from  the  footing  of  the 
cash  letter  if  they  are  included  therein  because,  as  explained  before, 
the  bank  does  not  allow  credit  for  them  until  they  have  been  paid. 
These  items  are  sent  to  the  collection  department  with  such  instruc- 
tions pertaining  to  them  as  are  included  in  the  customer's  letter. 

Proving  the  Cash  Items. — After  the  collection  items  nave  been 
eliminated,  the  cash  items  are  proved.  The  batch  is  divided  into 
two  parts:  the  letters  representing  the  credits  to  customers' 
accounts,  and  the  enclosures  representing  the  debits  to  cash. 
This  division  corresponds  to  the  method  used  by  the  receiving 
teller  in  preparing  his  batch  or  block  proof;  the  total  of  the  de- 
posits, it  will  be  remembered,  was  compared  and  proved  with  the 
total  of  the  items  (debits  to  cash)  which  appeared  on  the  various 
deposit  slips.  In  making  the  rack  proof,  the  total  of  the  credits 
called  for  by  the  letters  is  compared  with  the  total  of  all  the  items 
making  up  these  credits,  and  if  the  totals  agree  the  batch  is 
regarded  as  proved. 

The  Mail  Teller's  Daily  Proof. — The  daily  proof  made  by  the 
mail  teller  (Form  7)  in  a  large  bank  is  one  of  the  most  elaborate 


VI 


OTHER  RECEIPTS 


77 


—  iij 


78 


BANKING  PRACTICE 


IV 


proofs  used  in  the  bank.  When  the  batches  are  proved  and  dis- 
tributed, the  proof  sheets  are  retained  as  a  record  of  the  work. 
To  make  up  the  proof  for  the  day's  work  the  totals  of  the  various 


FOURTH  TELLER'S  PROOF  _^^,^/://^/ 

A.   IVI.  Transit  Dept. 

Check  Clerk  No.  8, 
Clearing  House  1st  Teller, 
Paid  to  1st  Teller, 

z,  r^z^^36 

f,  3H',JfZ 
ZO,  6?r3,033 

(pZ 
37 

Credit  Journal, 
Rec'll  Irooi  Ul  Teller, 

J^/,/^r.3f//- 

je 

"        2nd     " 

-      2nd     " 

"        3rd     - 

"       5th     " 

"      3rd      " 

S04^,3fZ 

03 

Sight  Drafts, 
Cash  Items, 

Z,202 

JZ 
7J 

"      Slh     " 

7'^/^,  C^7f 

07 

Total, 
P.   M.  Transit  Depl. 

Check  Clerk  No.  8, 
Clearing  House  Exchanges. 
Paid  to  ist  Teller, 

"Foreign  Depl. 
Tola). 
Rcc'd  Irom  Isl  Teller. 
••      2iul     •• 

/,^ffd.Z30 

^^ 

3rr(^^3^,^m 

32 

^^^lfi&jJ>Oi^ 

/^ 

3,J3S.JS6 

67 

u        2nd     "■ 

"         3rd     " 

"      3i.l     " 

••        5th     •• 

Large  Sights, 

4^^^,  ^^v 

o6 

••      5ili     '• 

SmaU      - 

CouElties  to  Iransit  Oepl. 

Cash  Ileitis, 

^^f/  253 

/O'^.  3r/^ 

/^7Z 

6f 

Total, 

j^//-./^6(?,{:o(!i 

/^ 

Toial. 

/f^MLM: 

/^ 

,         , 

Form  7.      Fourth  or  Mail  Teller's  Daily  Proof.     (Size  9  x  ^yi.) 


sheets  in  each  section  (the  term  "section"  here  referring  to  all  the 
accounts  carried  in  a  particular  ledger,  such  as  all  accounts  from 
A  to  E)  are  assembled  by  the  mail  teller.  If  each  batch  has  been 
made  up  correctly,  it  is  clear  that  the  total  of  all  of  them  taken 
together  must  balance.  That  is  to  say,  at  the  end  of  the  day  the 
total  of  all  the  cash  mail  received  must  be  equal  to  the  total  of  all 


VJ  OTHER  RECEIPTS  79 

the  items  which  the  mail  clerks  have  taken  out  of  such  letters. 
These  proof  sheets  are  filed  away  in  order  to  provide  a  permanent 
record  of  the  work  of  the  department. 

Accounting  for  Exchange  Charges. — The  cash  items  which 
were  found  enclosed  in  the  letters  are  then  sorted  and  distributed 
to  the  other  departments  of  the  bank  for  record  and  filing,  or  for 
conversion  into  cash  or  its  equivalent.  Besides  the  ordinary  cash 
items,  there  are  some  which  demand  special  explanation.  First 
are  those  which  involve  payment  of  exchange  charges.  An  ex- 
change charge  is  a  charge  levied  by  the  drawee  bank  or  by  some 
intervening  bank,  acting  as  collecting  agent,  for  its  service  in 
collecting  the  item;  the  amount  of  the  charge  is  deducted  from 
the  face  of  the  item,  and  must  be  paid  either  by  the  bank  which 
originally  received  the  item  or  by  its  customer.  A  more  complete 
discussion  of  the  reasons  for,  and  the  determination  of,  exchange 
charges  occurs  in  Chapter  VIII.  Wlien  advice  is  received  that  an 
item  which  has  previously  been  charged  in  full  to  the  account  of  a 
correspondent  bank  has  been  subject  to  a  deduction  for  the  ex- 
change charged,  the  letter  which  advises  the  amount  of  the  charge 
serves  as  the  basis  for  a  credit  to  the  account  of  the  correspondent 
bank. 

Returns — Protests.- — Another  group  which  requires  explana- 
tion is  that  of  the  return  items.  These  are  checks,  drafts,  and 
notes  which,  although  previously  sent  as  cash  items  and  charged 
to  the  accounts  of  correspondents,  are  now  returned  with  a  re- 
quest that  the  charge  be  removed  because  the  banks  charged 
have  been  unable  to  get  the  money  for  the  items.  The  reason 
for  the  inability  to  collect  may  be  insuiiiciency  of  funds  in  the 
account  of  the  signer,  or  a  stop-payment  order,  or  it  may  be 
forgery  or  other  irregularity  with  respect  to  the  document  itself. 
Sometimes  these  items  are  protested  before  being  returned. 

A  protest  is  merely  a  notice  in  legal  form  which  establishes  the 


80  BANKING  PRACTICE  [V 

fact  that  the  check  or  other  item  in  question  has  been  duly  pre- 
sented at  the  proper  place  for  payment  and  that  payment  has 
been  refused.  Except  under  special  conditions,  protest  is  neces- 
sary to  hold  the  indorsers  liable  for  the  payment  of  the  item,  if 
the  maker  does  not  pay  it.  Usually,  though  not  necessarily,  a 
protest  is  effected  through  a  notary  public,  and,  of  course,  certain 
charges  and  expenses  are  incurred.  When  this  is  the  case,  these 
charges  are  added  to  the  original  amount  of  the  item  and  the 
total  is  sent  back  with  a  request  that  the  bank  upon  which  the 
item  was  drawn,  and  which  was  previously  charged,  be  now 
credited  for  such  amount.  The  first  bank  now  gives  credit  and 
reimburses  itself  by  securing  the  amount  of  the  item  plus  the 
protest  fees,  if  any,  from  the  customer  who,  as  shown  by  the 
indorsement,  originally  deposited  it. 

Recording  Interest  Delays. — Besides  the  operations  strictly 
to  be  defined  as  receiving,  there  are  various  incidental  activities 
connected  with  the  receipt  of  deposits  by  mail.  One  of  the  most 
important  of  these  is  the  examination  of  the  items  sent  in  for  de- 
posit with  respect  to  the  time  likely  to  elapse  before  the  bank  can 
obtain  the  actual  money  called  for  by  the  deposit.  If  the  deposit 
is  made  up  of  checks  drawn  on  banks  in  various  parts  of  the 
country,  the  collection  of  some  of  them  may  entail  delay  of  a  day 
or  two — some  perhaps  a  delay  of  six  or  eight  days — before  the 
receiving  bank  actually  obtains  the  funds. 

If  a  bank  is  paying  interest  on  the  credit  balance  of  a  customer, 
it  is  obviously  unfair  to  expect  it  to  compute  interest  on  such 
balance  if  made  up  of  items  for  which  the  bank  will  be  unable  to 
obtain  cash  for  several  days.  Hence,  although  such  items  are 
credited  immediately  to  the  depositor's  account,  care  must  be , 
taken  to  see  that  interest  is  not  computed  on  that  portion  of  the ; 
balance  which  will  remain  for  some  days  uncollected.  In  order 
to  make  sure  that  these  items  are  not  included  in  the  balances 
upon  which  interest  is  computed  until  sufficient  time  has  elapsed 


V  ]  OTHER  RECEIPT.?  8l 

for  their  collection,  some  of  the  employees  engaged  in  handling  the 
mail  indicate  the  "interest  delays"  on  each  item.  When  the  letter 
then  reaches  the  bookkeeper  as  a  credit  to  the  customer's  account, 
the  bookkeeper  makes  note  of  the  time  when  the  various  items 
will  commence  to  draw  interest. 

Instructions  Accompanying  Deposits. — Another  of  the  duties 
associated  with  the  receipt  of  deposits  by  mail  is  the  carrying  out 
of  instructions  which  have  been  given  by  the  depositors.  Some  of 
these  are  "standing,"  or  permanent  instructions,  such  as  the 
request  to  advise  a  home  office  of  deposits  received  from  its 
branches,  or  to  wire  advice  of  payment  or  non-payment  of  items 
of  a  certain  size.  But  in  addition  to  these  standing  orders,  banks 
frequently  receive  letters  which  embody  special  instructions.  Of 
course,  every  bank  which  is  seeking  to  give  satisfactory  service 
tries  to  carry  out  the  instructions  of  depositors  as  fully  as  possible, 
and  hence  when  the  volume  of  the  mail  is  large  it  may  require  a 
considerable  amount  of  time  and  labor  to  carry  out  the  special 
instructions  received. 

Foreign  Deposits  by  Mail. — In  the  receipt  of  deposits  from 
foreign  customers  certain  differences  appear.  The  most  striking 
of  these  differences  is  probably  the  practice  of  making  certain  that 
items  deposited  will  be  paid  before  the  amount  is  even  credited  to 
the  customer's  account.  Usually  only  United  States  money  and 
checks  payable  in  New  York  City  are  accepted.  Each  check  must 
be  drawn  to  the  order  of  the  receiving  bank  or  must  bear  a  well- 
known  indorsement.  If  a  check  of  considerable  size  is  drawn  upon 
a  neighboring  bank,  it  is  sent  to  such  bank  for  certification  before 
being  credited  to  the  account  of  the  depositor.  Finally,  checks 
drawn  on  the  receiving  bank  are  assured  of  payment  by  the  fact 
that  the  bookkeepers  are  instructed  to  "hold"  a  sufficient  part 
of  the  drawer's  balance  to  pay  such  checks  when  they  are  regular- 
ly presented  later  in  the  day.     Receipt  for  foreign  deposits  is 


82  BANKING  PRACTICE  [V 

made  usually  by  sending  a  special  advice  of  credit,  rather  than 
by  the  issue  of  a  duplicate  deposit  slip  or  by  an  entry  in  a  pass- 
book as  is  done  in  the  case  of  domestic  deposits. 

Characteristics  of  a  Bank's  Mail. — The  receipt,  distribution, 
and  acknowledgment  of  the  general  mail  are,  as  was  said  before, 
mere  incidents  in  the  work  of  a  small  bank;  and  even  in  handling 
the  mail  of  large  banks  few  problems  present  themselves  which 
are  peculiar  to  the  banking  business.  The  bank  does  the  same 
work  in  general  in  dealing  with  the  mail  that  any  other  large 
industry  does.  There  arises,  however,  one  important  difference 
as  compared  with  other  businesses:  the  volume  of  registered  mail 
coming  in  and  going  out  of  banks  is  considerably  larger  than  that 
of  other  businesses  of  similar  size.  This  unusual  volume  is  ex- 
plained by  the  fact  that  valuable  papers,  investment  securities, 
and  even  money  go  in  and  out  of  the  banks  through  the  mails. 
As  to  outgoing  mail,  care  must  be  exercised  in  a  bank,  as  in  any 
other  business  which  handles  a  large  volume  of  mail,  to  see  that 
the  expenditures  for  postage  and  registration  are  properly  ac- 
counted for,  to  see  that  the  letters  are  properly  addressed,  that 
they  contain  the  proper  enclosures,  and  give  the  information 
which  the  correspondent  has  requested. 

Translators,  Investigators,  Routers. — In  those  banks  which 
do  a  considerable  amount  of  international  business  a  few  other 
interesting  facts  about  the  mail  are  encountered.  Obviously, 
mail  from  foreign  countries,  written  in  different  languages,  may 
often  require  translation  by  experts. '  Obviously,  also,  in  han- 
dling a  large  volume  of  foreign  business,  it  is  natural  to  expect  that 
misunderstandings  and  differences  will  often  arise  because  of  the 
varying  methods  of  doing  business  in  different  countries.  In 
order  to  smooth  out  these  differences  and  remedy  the  complaints, 


'  The  manner  in  which  this  work  is  handled  in  a  large  bank  with  international  affilia- 
tions is  described  in  Chapter  xxv  of  Langston's  "  Practical  Bank  Operation." 


V]i  OTHER  RECEIPTS  83 

a  staff  of  special  investigators  is  maintained.  Finally,  there  are 
the  special  problems  of  routing.  The  despatching  of  mail  to 
foreign  points  requires  the  services  of  a  special  staff  because  the 
sailing  schedules  of  the  various  mail  steamers  must  be  kept  in 
mind,  and  because  documents  covering  goods  shipped  to  foreign 
ports  are  usually  sent  in  duplicate  or  triplicate  and  each  copy  is 
sent  by  a  different  carrier.  In  order  that  the  consignee  shall  not 
be  delayed  in  obtaining  the  goods  because  of  the  tardy  arrival  of 
documents  which  he  must  have  before  he  can  claim  the  shipment, 
it  is  necessary  that  great  care  be  taken  in  routing  the  mail,  to 
send  it  as  speedily  as  possible.  Sometimes,  indeed,  it  is  possible  to 
send  the  letters  and  documents  covering  a  shipment  of  merchan- 
dise by  the  vessel  which  carries  the  goods.  Mail  sent  in  this  way 
is  spoken  of  as  consignee  mail.  A  knowledge  of  the  vessels  upon 
which  goods  destined  for  export  are  being  shipped  is  required  to 
handle  such  transactions. 

Receipts  Through  Note  Teller's  Department. — Those  de- 
posits have  been  mentioned  which  come  over  the  counter  through 
the  receiving  department,  and  by  domestic  and  foreign  mail 
through  the  regular  m^ail  department.  Other  departments  also 
serve  as  channels  for  the  receipt  of  deposits  which  are  of  a  more  or 
less  heterogeneous  nature.  In  a  large  bank  practically  all  these 
miscellaneous  deposits  are  made  through  the  note  or  third  teller's 
department.  Some  deposits,  for  example,  come  to  the  bank  by 
express;  these  are  disposed  of  by  the  note  teller's  department, 
which  handles  the  items  in  the  same  manner  as  the  mail  teller's 
department  handles  items  received  through  the  mail.  In  certain 
special  cases  the  note  teller's  department  receives  mail  remit- 
tances also.  If,  for  example,  items  are  mailed  to  the  bank  for 
deposit  but  without  sufhcient  instructions  as  to  how  to  dispose  of 
them,  they  are  turned  over  to  the  note  teller,  who  carries  the 
funds  in  a  suspense  or  holding  account,  such  as  the  Cashier's 
account,  until  the  wishes  of  the  sender  arc  ascertained. 


H  BANKING  PRACTICE  IV 

Except  for  the  credits  that  are  made  to  customer's  accounts 
to  correct  erioneous  charges,  practically  the  only  other  sources  of 
deposits  are  the  loan  and  discount  departments.  When,  for 
example,  a  customer  secures  a  loan,  he  receives  in  exchange  for 
his  promissory  note  a  credit  to  his  account. 

Reflection  of  Receiving  Activities  in  Bank's  Statement. — 

The  problem  of  chief  interest  in  connection  with  the  credits  to 
customers'  accounts  from  loans  made  by  the  bank  is  the  manner  in 
which  the  credit  is  arranged  for.  This  matter  will  be  discussed 
fully  in  Chapter  XVI.  It  is  sufficient  to  note  here,  in  connection 
with  the  function  of  receiving,  that  the  deposit  liabilities  of  the 
bank,  and  thereby  the  credits  of  customers,  are  increased  as  well 
by  loans  as  by  deposits  in  any  other  manner.  When  a  loan  has 
been  negotiated,  the  loan  and  discount  department,  the  note 
teller,  the  receiving  teller,  or  some  other  employee — the  procedure 
varying  with  the  size  of  the  bank  and  its  plan  of  organization — 
prepares  a  credit  slip  for  the  customer's  account  and  charges  the 
account  of  Loans  and  Discounts  in  the  general  ledger.  This  trans- 
action is  reflected  on  the  bank's  statement  in  an  increase  of  assets 
as  represented  by  the  addition  to  loans,  and  an  increase  in  lia- 
bilities as  represented  by  the  addition  to  deposits. 


CHAPTER  VI 
PAYING 

The  Paying  Function  Defined. — The  second  important  bank- 
ing operation  is  that  of  paying  or  cashing  checks  and  similar 
claims  upon  the  bank.  The  paying  function  covers  all  the  activi- 
ties connected  with  the  maintenance  of  an  adequate  supply  of 
cash  to  meet  the  demands  of  customers  and  with  the  payment  of 
money  in  response  to  those  demands.  Although  the  function  is 
simple,  the  work  is  often  heavy  and  exacting.  The  receiving 
operations,  as  has  been  stated,  result  in  giving  to  a  large  number 
of  customers  the  right  to  demand  payment  in  cash  of  the  full 
amount  of  their  balances  at  any  time.  The  bank  is  a  debtor  to 
these  customers  and  their  claims  must  be  met  upon  demand. 

The  Teller's  Responsibility. — The  position  of  the  paying  teller 
is  one  of  great  responsibihty.  In  the  first  place,  he  is  the  re- 
sponsible custodian  of  the  whole  supply  of  cash  which  the  bank 
has  on  hand  at  any  given  time.  Whereas  the  receiving  teller 
begins  and  ends  his  day  with  a  clear  desk,  the  paying  teller  begins 
the  day  with  a  large  supply  of  cash  on  hand  and  at  its  close  is 
responsible  for  the  currency  taken  in  by  the  receiving  teller  and 
other  employees  during  the  day.  In  the  second  place,  while  the 
receiving  teller  deals  almost  exclusively  with  depositors  of  the 
bank,  the  paying  teller  may  be  called  upon  to  make  payments  to, 
and  transact  business  with,  many  persons  who  are  not  depositors. 
These  points  of  difference  between  the  work  of  the  two  tellers  are 
important  because,  if  the  receiving  teller  should  make  an  error 
there  always  remains  the  possibility  of  correcting  it  without  any 
loss  to  the  bank  by  charging  or  crediting  the  difference  to  the 
customer's  account;  if  for  any  reason  checks  deposited   are 

85 


86  BANKING  PRACTICE  [  VI 

returned  unpaid,  the  receiving  teller  may  feel  confident  that  he 
will  have  no  difficulty  in  recovering  the  money,  because  the 
deposit  has  been  made  by  a  customer  of  the  bank.  The  paying 
teller,  on  the  other  hand,  often  pays  out  money  to  persons  whom 
he  never  sees  again.  Money  paid  to  such  individuals  in  error  is 
not  likely  to  be  recovered  unless  the  recipient  voluntarily  brings 
it  back. 

Furthermore,  even  when  the  person  receiving  the  money  is  a 
customer,  the  risk  of  loss  is  greater  in  paying  cash  than  in  receiv- 
ing it.  There  is  a  finality  about  the  paying  teller's  transactions. 
The  receiving  teller  may  look  back  over  the  checks  and  other 
items  deposited,  and  if  an  error  is  detected  may  then  make  the 
necessary  corrections  on  the  customer's  deposit  slip.  While  the 
paying  teller  may  refer  to  the  checks  or  other  items  he  has  handled 
during  the  day,  he  has  little  check  upon  the  amounts  he  has  paid 
out.  He  has  no  means  of  detecting,  for  example,  whether  he  paid 
William  Brown  $iio  in  error  for  the  check  of  $ioo  which  his 
records  show  Brown  had  cashed  during  the  day.  For  this  reason 
he  must  exercise  the  utmost  watchfulness  over  every  transaction. 

The  Department  Personnel. — The  paying  teller's  department, 
sometimes  referred  to  as  the  first  teller's  department,  consists  of 
the  teller  and  the  assistants  required  by  the  size  of  the  bank  and 
the  volume  of  business  handled.  The  volume  of  work  varies  at 
different  periods  of  the  day.  In  general  it  is  heaviest,  in  the  ordin- 
ary commercial  bank,  in  the  morning.  During  the  morning  many 
business  men  call  for  supplies  of  currency  of  various  denomina- 
tions to  take  care  of  their  needs  for  the  day;  the  bank  clearings 
come  in  the  morning  and  settlement  must  be  made  by  the  teller 
for  the  amounts  owed  by  his  bank  to  other  members  of  the  local 
clearing  house  association,  and  the  checks  to  be  charged  to  the 
accounts  of  the  bank's  depositors  must  be  distributed  to  the 
bookkeepers,  as  early  as  possible  in  the  day. 

The  responsibility  for  the  safe-keeping  of  the  bank's  cash 


VI]  PAYING  87 

rests  upon  the  paying  teller  alone.  Great  care  is  taken  to  make 
sure  that  no  persons  except  those  working  immediately  under  his 
direction  shall  have  access  to  the  cash.  Therefore,  the  tellers 
with  their  cash  and  records  are  usually  enclosed  in  "cages"  or 
compartments  surrounded  by  steel  or  brass  grill  work  or  some- 
times by  plate  glass.  Only  the  teller  and  his  authorized  assis- 
tants are  permitted  to  enter  the  cage  during  business  hours. 

The  Work  of  the  Paying  Teller. — The  day's  work  of  the  pay- 
ing teller  and  his  department  may  be  considered  under  five  main 
heads : 

1.  Counting  and  verifying  the  cash  receipts  of  the  bank. 

2.  Keeping  and  safeguarding  the  supply  of  cash. 

3.  Paying  cash. 

4.  Distributing  the  items  exchanged  for  cash  to  the  proper 

departments  of  the  bank. 

5.  Proving  the  day's  work. 

Besides  these  main  activities,  certain  incidental  duties  de- 
volve upon  the  tellers,  some  of  which  may  be  of  considerable 
importance  in  large  banks  but  occupy  only  a  small  amount  of  the 
teller's  time  in  smaller  banks.  Examples  of  these  duties  are  mak- 
ing up  the  bank's  pay-roll,  paying  out  and  keeping  a  record  of 
bank  expenditures  and  the  petty  cash  account,  and  certifying 
checks  for  depositors.  In  banks  where  such  work  becomes  oner- 
ous, separate  departments  are  sometimes  organized,  as  for 
example,  a  certified  check  department. 

The  Sources  of  the  Bank's  Supply  of  Cash. — The  supply  of 
cash  which  the  bank  carries  comes  from  various  sources.  In  the 
case  of  a  national  bank,  part  of  this  supply  consists  of  the  notes 
issued  by  the  bank,  as  described  elsewhere  in  this  volume  (page 
47).  A  second  source  is  the  federal  reserve  bank.  The  manner 
in  which  money  is  thus  obtained  has  likewise  been  explained  else- 
where (page  48).     A  third  source  of  supply  is  found  in  other 


88  BANKING  PRACTICE  [VI 

banks,  as  when  one  bank  borrows  temporarily  to  meet  its  needs 
from  other  banks  with  which  it  has  business  relations.  A  fourth 
source  is  the  nearest  sub-treasury/  from  which  the  bank  obtains 
currency  for  an  equivalent  amount  of  cash  in  some  other  form. 
In  general  the  receipts  from  the  sub-treasury  do  not  result  in 
augmenting  the  supply  of  cash,  although  occasionally  the  bank 
may  receive  a  net  addition  to  its  cash  from  the  sub-treasury  when 
the  United  States  Treasurer  transfers  government  deposits  from 
the  sub-treasury  to  the  banks.  The  fifth  source  of  supply  consists 
of  deposits  and  payments  of  currency  which  are  made  to  the 
various  departments  of  the  bank  in  the  course  of  the  day's  busi- 
ness, and  this  is  by  far  the  most  important  supply  with  which  the 
paying  teller  has  to  deal. 

Counting  and  Sorting  the  Money. — The  receiving  teller,  as 
well  as  every  other  employee  who  receives  cash  for  the  account 
of  the  bank,  transfers  all  such  receipts  from  time  to  time  during 
the  day  to  the  paying  teller,  taking  his  receipt  therefor.  The  pay- 
ing teller  then  becomes  responsible  for  all  moneys  received, 
however  large  in  volume  or  varied  in  form.  This  currency  must 
be  sorted  according  to  denominations,  must  be  carefully  ex- 
amined to  see  that  it  is  genuine  and  not  mutilated,  must  be 
verified  as  to  amount,  must  be  put  up  in  convenient  packages  for 
handling,  and  must  be  safely  stored.  The  supplies  of  currency 
which  come  to  the  bank  from  other  banks,  from  the  sub-treasury, 
the  federal  reserve  bank,  and  from  the  Comptroller's  department, 
are  accepted  without  question  and  usually  require  no  further 
examination  because  they  are  already  put  up  in  convenient  pack- 
ages and  there  is  no  doubt  either  of  the  accuracy  of  count  or  of  the 
genuineness  of  the  pieces. 


'  In  connection  with  this  and  subsequent  references  to  the  sub-treasuries,  it  should  be 
remembered  that  Congress  provided  for  their  abolition  in  the  Legislative,  Executive,  and 
Judicial  Supply  Bill,  approved  by  the  President  on  May  29,  1920.  According  to  the  law 
the  sub-treasuries  must  be  discontinued  by  July  I,  1921,  and  their  functions  be  taken  over 
by  the  twelve  federal  reserve  banks. 


VI  ]  PAYING  89 

Guarding  Against  Counterfeit  Money. — Where  the  amount  of 
currency  handled  is  very  large,  the  work  of  counting  and  packing 
the  money  is  given  to  special  employees  in  the  paying  teller's 
department  under  the  charge  of  the  teller.  The  money  is  counted 
and  verified  by  two  or  more  persons,  the  work  being  done  by 
hand  except  in  the  case  of  minor  coins.  For  these,  machines 
which  sort,  count,  and  wrap  into  packages  the  different  kinds  of 
coin  are  in  general  use.  The  final  responsibility  for  detecting 
uncurrent  money  rests  upon  the  money  teller  and  his  assistants. 
As  they  verify  and  put  up  the  currency  into  packages  for  storing, 
they  count  it  and  inspect  it  for  its  genuineness.  While  doing  this 
work  they  are  constantly  on  the  lookout  for  counterfeit  money. 
The  work  of  counterfeiters  is  frequently  done  with  such  skill  that 
it  does  not  arouse  the  suspicion  of  the  ordinary  observer.  But 
the  experienced  teller  develops  his  senses  of  touch  and  sight  to 
such  an  extent  that  he  can  in  the  great  majority  of  cases  detect 
counterfeit  money  as  it  is  passing  rapidly  through  his  hands. 
Perhaps  something  slightly  unusual  about  the  appearance  of  the 
currency  attracts  his  attention;  perhaps  there  is  a  greasy  "feel" 
to  the  coins  which  he  recognizes  as  unusual;  or  a  slight  variation 
in  the  weight  may  attract  his  attention.  To  supplement  his 
knowledge  each  teller  has  a  copy  of  the  "  Counterfeit  Detector" — 
a  periodical  which  gives  a  description  of  each  known  counterfeit 
reported  by  banks,  secret  service  agents,  and  others  interested  in 
detecting  counterfeit  money.  When  a  piece  of  counterfeit  money 
is  discovered  the  bank  mutilates  it  by  stamping  it  "counterfeit" 
and  turns  it  over  to  the  secret  service  agents,  charging  the 
amount  back  to  the  customer  from  whom  it  was  received. 

Raised  and  Mutilated  Money. — Other  matters  the  money 
tellers  have  to  look  out  for  are  raised  and  mutilated  money. 
Raised  money  is  encountered  much  more  frequently  than  counter- 
feit currency  but  its  detection  is  relatively  simple.  The  money 
counters  sort  the  money  by  kinds  and  denominations.    Since  a 


90  BANKING  PRACTICE  I VI 

raised  note  bears  the  engraving  of  a  lower  issue  than  the  one  it 
purports  to  be,  it  is  readily  detected  in  the  bundle  of  notes  of 
higher  denomination. 

All  mutilated  and  badly  worn  bills  and  coins  are  laid  aside  to 
be  exchanged  for  new  currency — usually  without  expense  or 
trouble — at  the  nearest  sub-treasury  or  federal  reserve  bank. 
Mutilated  gold  and  silver  coins  and  under-weight  gold  coins  can 
be  redeemed  only  at  their  bullion  value.  In  such  case  the  bank 
disposes  of  them  and  gives  the  customer  who  deposited  them 
credit  only  for  the  amount  realized  from  the  sale.  Light  silver 
coins  and  mutilated  paper  currency  are  redeemed  by  the  govern- 
ment at  their  face  value  in  most  cases.  If,  however,  a  piece  of 
paper  money  is  so  mutilated  that  less  than  three-fifths  but  more 
than  two-fifths  remains,  such  a  bill  is  redeemed  by  the  govern- 
ment at  half  its  face  value.  If  less  than  two-fifths  remains  it  is 
worthless,  except  that  any  fragment  of  paper  money  will  be 
redeemed  at  its  face  value,  provided  the  holder  furnishes  an  affi- 
davit stating  that  the  remaining  portion  has  been  wholly  de- 
stroyed and  describing  the  means  by  which  it  was  destroyed. 
The  sub-treasury  redeems  coins  and  legal  tender  notes,  while  the 
local  federal  reserve  bank  redeems  federal  reserve  notes.  Na- 
tional bank  notes  are  redeemed  by  the  Treasurer  of  the  United 
States. 

Preparing  the  Money  for  Storage. — After  the  money  has  been 
counted  and  verified  it  is  prepared  for  storing.  To  facilitate  this 
work,  money  is  sorted  as  to  kinds  and  denominations  and  is  put 
up  in  standard  size  packages.  Paper  money  is  sorted  into  gold 
certificates,  silver  certificates,  legal  tender  notes,  federal  reserve 
notes,  and  national  bank  notes.  While  each  bank  may  have  its 
own  units  or  standard  packages,  there  is  a  good  deal  of  uniformity 
throughout  the  banking  world  in  the  plan  of  wrapping  money. 
The  following  is  the  usual  method :  hundred-dollar  bills  in  pack- 
ages of  $2,500;  fifty-dollar  bills  in  packages  of  $1,000;  twenty- 


VI  ]  PAYING  91 

dollar  bills  in  packages  of  $1,000;  ten-dollar  bills  in  packages  of 
$500;  five-dollar  bills  in  packages  of  $250;  two-dollar  bills  in 
packages  of  $50;  and  one-dollar  bills  in  packages  of  $50.  The 
minor  coins  are  wrapped  in  rolls  as  follows:  fifty-cent  pieces  in 
rolls  of  $10;  twenty-five  cent  pieces  in  rolls  of  $10;  ten-cent  pieces 
in  rolls  of  $5;  five-cent  pieces  in  rolls  of  $2;  one-cent  pieces  in 
rolls  of  fifty  cents. 

The  Vaults  and  Protective  Devices. — After  the  money  has 
been  put  up  in  convenient  packages  and  safely  stored,  another 
duty  of  the  paying  teller  is  to  see  that  an  amount  sufficient  to 
satisfy  the  requirements  of  the  bank  is  constantly  at  hand.  The 
safe-keeping  of  the  money  is  provided  for  by  large  vaults  and 
safes  made  as  nearly  impregnable  as  possible.  The  doors  of  both 
vaults  and  safes  are  usually  equipped  with  combination  and  time 
locks  so  adjusted  that  they  cannot  be  opened  until  the  lapse  of  a 
certain  number  of  hours.  Thus,  when  the  teller  at  the  close  of  the 
day's  business  sets  the  time  lock  so  that  it  will  release  the  mechan- 
ism after  eight  o'clock  the  next  morning,  it  is  impossible  to  obtain 
entrance  to  the  safe  or  vault  legitimately  before  that  time.  In 
addition  the  banks  in  large  cities  are  usually  equipped  with 
electric  signal  devices  which  give  notice  to  a  central  office  if  any 
attempt  is  made  to  tamper  with  the  doors  after  they  have  been 
locked.  Some  vaults  and  safes  are  so  equipped  that  if  they  are 
opened  improperly  the  intruder  will  be  scalded  by  jets  of  live 
steam.  As  a  further  measure  of  protection  persons  who  are 
known  to  the  police  of  large  cities  as  criminals  are  prevented 
from  even  entering  the  financial  district. 

The  Cash  Inventory;  Relation  of  Cash  to  Loans. — To  make 
sure  of  an  adequate  supply  of  cash  for  the  bank's  needs,  the  pay- 
ing teller  maintains  a  running  inventory  or  rough  proof  showing 
the  kinds  and  denominations  of  money  in  stock.  Every  time  this 
amount  is  altered  by  additions  or  withdrawals,  he  alters  his  figures 


92  BANKING  PRACTICE  [VI 

to  correspond,  so  that  at  any  given  moment  during  the  day  he 
can  by  reference  to  his  proof  sheet  tell  exactly  how  much  cash 
the  bank  has  on  hand. 

Reserve;  Paying  Teller^s  Cash;  Assistant  Teller's  Cash. — 

In  a  large  bank  the  supply  of  cash  is  divided  into  three  portions, 
each  of  which  is  kept  separate  from  the  others.  These  are  the 
reserve  cash,  the  paying  teller's  cash,  and  the  assistant  teller's 
cash.  The  reserve  consists  of  the  surplus  cash  kept  as  a  sort  of 
safety  fund  to  meet  unusual  demands.  The  paying  teller's  cash 
consists  of  what  may  be  called  the  bank's  working  cash — that  is, 
the  amount  required  to  meet  ordinary  demands^;  and  the  third 
portion  consists  of  the  cash  to  be  used  by  the  assistant  paying 
tellers  in  their  work  of  cashing  checks. 

Paying  Cash  Against  Checks. — The  third  main  activity  of  the 
paying  teller's  department  is  that  of  paying  cash  to  those  who 
present  checks  or  other  orders  to  the  bank.  These  checks  and 
orders  may  be  divided  into  two  main  classes,  those  which  are 
drawn  on  the  bank  itself,  and  those  which  are  drawn  on  other 
institutions.  The  first  class  is  by  far  the  larger.  To  consider  the 
less  important  first,  the  items  drawn  on  other  institutions  and 
presented  to  the  paying  teller's  department  to  be  cashed  consist 
of  checks,  drafts,  certificates  of  deposit,  post-office  money  orders, 
express  money  orders,  coupons,  and  similar  instruments. 

The  essence  of  these  transactions  is  that  the  paying  teller 
gives  out  some  of  the  supply  of  cash  for  which  he  is  responsible, 
to  a  customer  of  the  bank  in  exchange  for  the  implied  obligation 
of  another  bank  or  institution  to  pay  his  bank  a  similar  amount. 
It  must  be  clear  that  the  teller  would  not  make  such  payment 
unless  he  felt  sure  that  the  institution  or  person  who  is  ultimately 
responsible  for  such  payment  will  recompense  his  bank  in  full  for 
the  amount  thus  advanced.  Since,  in  most  cases  he  knows  little 
or  nothing  about  the  standing  of  the  drawer  of  such  check  or 


VI  ]  PAYING  93 

other  item,  he  rehes  upon  his  knowledge  of  the  customer  and  the 
customer's  willingness  and  ability  to  return  the  money  in  case 
the  order  to  pay  is  not  complied  with  when  presented  to  the  bank 
upon  which  it  is  drawn.  This  means  that  the  teller  must  know 
the  person  for  whom  he  cashes  an  item  drawn  on  another  in- 
stitution. Usually,  therefore,  the  teller  will  cash  items  drawn  on 
other  institutions  only  when  presented  or  indorsed  by  depositors. 

Orders  on  the  Paying  Bank. — The  cashing  of  checks  drawn 
upon  his  own  bank  involves  somewhat  less  risk  of  loss,  inasmuch 
as  the  teller  can  ascertain  before  paying  any  money  whether  the 
drawer  has  sufficient  funds  on  hand  to  meet  such  payment  and 
whether  a  stop-payment  order  or  similar  obstacle  makes  payment 
impossible.  On  the  other  hand,  the  teller  has  certain  added  re- 
sponsibilities. If  an  item  is  payable  elsewhere,  he  need  have  no 
concern  as  to  whether  the  drawer  has  sufficient  funds  or  whether 
payment  has  been  stopped  because,  if  he  is  satisfied  as  to  the 
responsibility  of  the  person  who  obtains  the  money,  he  can  always 
feel  confident  of  recovering  in  case  the  item  is  dishonored.  When, 
however,  he  cashes  checks  on  his  own  bank  he  is  expected  to  as- 
certain, before  paying  the  money,  whether  the  item  is  good  or  not; 
and  he  is  furthermore  responsible  not  only  for  the  protection  of 
the  bank  but  also  for  the  protection  of  the  depositor. 

Protection  of  the  Depositor  and  Bank. — The  depositor  may 
properly  expect  that  his  checks  will  be  paid  promptly  if  he  has 
sufficient  funds,  and  that  no  checks  will  be  charged  to  his  account 
which  have  not  been  properly  drawn  and  signed  by  him.  As  the 
representative  of  the  bank,  the  paying  teller  must  be  sure  that 
the  check  is  valid  in  every  respect.  As  the  representative  of  the 
depositor,  he  must  be  on  guard  against  the  forgery  of  the  de- 
positor's name,  and  be  sure  that  the  check  is  not  one  on  which 
payment  has  been  stopped.  He  must  see  that  the  payee  ac- 
knowledges the  receipt  of  the  money  or  its  equivalent  and  thus 


94  BANKING  PRACTICE  [VI 

discharges  the  signer  of  the  check  from  further  liability  for  its 
amount  as  shown  by  the  indorsement.  The  payee  must  indorse 
the  check  if  he  presents  it  in  person.  If  the  payee  is  not  known 
to  the  teller,  he  must  furnish  evidence  of  his  identity  so  that  the 
teller  may  know  he  is  the  proper  person  to  receive  the  money. 
If  the  check  is  given  to  another  person  the  validity  of  such  trans- 
fer must  be  indicated  by  the  payee's  indorsement.  Usually  the 
teller  requires  the  one  who  presents  the  item  to  indorse  it  also, 
in  order  that  he  may  have  a  record  showing  to  whom  the  money 
has  been  paid.  Finally  the  teller  must  see  that  the  date  of  pay- 
ment is  correct.  If  he  fails  to  safeguard  the  depositor's  interests 
in  any  of  these  respects,  not  only  does  the  bank  lose  the  customer's 
good-will  and  his  business,  but  the  possibility  exists  of  the  injured 
depositor's  bringing  a  suit  for  damages  against  the  bank. 

Signature  Records  and  Stop-Payment  Lists. — While  the  work 
of  paying  checks  is  one  of  great  responsibility,  the  task  is  lightened 
by  the  fact  that  records  are  kept  to  which  the  teller  may  refer  at 
any  time  when  in  doubt  about  the  validity  of  a  check.  He  be- 
comes familiar  by  experience  with  the  signatures  of  the  majority 
of  the  depositors,  and  he  can  usually  tell  at  a  glance  if  it  is  genuine. 
If  he  has  any  doubt  about  it  he  refers  to  the  signature  card  upon 
which  the  depositor  when  opening  an  account  signs  his  name. 
The  signature  cards  are  filed  in  alphabetical  order,  usually  in  the 
paying  teller's  cage;  if  more  than  one  copy  is  kept,  the  additional 
files  are  deposited  in  other  departments. 

The  teller  must  know  whether  the  check  of  the  drawee  is  good 
or  not.  Familiarity  with  the  bank's  accounts  enables  him  to  pay 
with  confidence  the  items  drawn  by  the  majority  of  the  depositors. 
If  he  has  any  doubt  about  an  account  he  refers  to  the  bookkeeper 
and  ascertains  whether  the  depositor  has  sufficient  funds  to  meet 
the  check  in  question. 

In  handling  stop-payment  orders  the  teller  also  has  at  hand  a 
list  or  series  of  cards  showing  the  items  upon  which  payment  has 


VI]  PAYING  95 

been  stopped  within  the  past  week  or  two.  In  addition  to  this 
record  the  bookkeeper  frequently  marks  on  his  ledger  a  notation 
of  all  stop-payment  orders  that  have  been  entered  by  the  deposi- 
tors whose  accounts  he  handles.  He  is  expected  to  observe  and 
call  attention  to  any  checks  whose  payment  has  been  stopped, 
if  the  teller  has  paid  them  and  sent  them  out  to  be  entered  upon 
the  ledger. 

Finally,  to  safeguard  the  interests  of  the  depositor,  the  paying 
teller  must  be  alert  to  detect  any  irregularities  in  items  presented 
for  payment.  For  example,  he  must  be  sure  that  the  amount  and 
the  date  on  the  check  have  not  been  altered  by  someone  other 
than  the  maker.  If  there  is  any  appearance  of  irregularity  it  is 
his  duty  to  refuse  payment  until  he  has  communicated  with  the 
maker. 

Other  Duties  of  the  Paying  Teller. — In  addition  to  his  re- 
sponsibility for  the  payment  of  items  at  the  window,  the  paying 
teller  of  a  large  bank  is  in  charge  of  certain  other  payments.  A 
large  city  bank  may  be  requested  by  national  banks  located  in 
other  places  to  make  payment  to  the  Treasury  for  the  account  of 
the  5  per  cent  redemption  fund  which  all  national  banks  are 
required  to  maintain  against  their  outstanding  note  circulation. 
Frequently  customers  request  the  bank  to  make  shipments  of 
currency  to  themselves  or  to  others  for  their  accounts,  or  they 
may  require  gold  to  be  sent  to  foreign  countries,  or  special  kinds 
and  denominations  of  money  to  fill  their  domestic  needs.  All 
letters  requesting  shipment  of  money  are  sent  by  the  paying  teller 
to  the  bookkeeper  to  ascertain  whether  the  bank  or  person  making 
the  request  has  a  sufficient  balance  against  which  the  shipment 
may  be  charged.  The  signature  on  the  letter  is  compared  with 
the  signature  card.  The  currency  is  then  made  up  for  shipment 
and  turned  over  to  the  person  in  charge  of  express  shipments. 
He  puts  it  up  in  a  sealed  package  and  delivers  it  to  the  express 
company  or  post-office  for  shipment. 


96  BANKING  PRACTICE  [Vlj 

Payment  of  Clearing  House  Balances. — The  paying  teller  in 
many  banks  is  also  charged  with  the  payment  of  balances  arising 
in  connection  with  the  daily  clearing  house  operations.  In  some 
cities  these  balances  are  settled  by  the  payment  of  cash  or  by 
draft  on  the  clearing  house  or  other  bank.  Since  the  estabHsh- 
ment  of  the  federal  reserve  system,  settlements  are  made  when 
possible  merely  by  book  transfers  among  the  banks  concerned 
through  the  local  federal  reserve  bank.  For  example,  in  New 
York  the  paying  teller  is  charged  with  the  amount  of  the  checks 
and  other  items  accumulated  from  the  various  departments  which 
have  been  sent  to  the  clearing  house.  The  paying  teller  is  there- 
fore required  to  account  for  an  amount  equal  to  that  received 
from  these  various  departments,  and  this  figure  becomes  a  debit 
upon  his  records.  As  explained  in  Chapter  VII,  the  other  mem- 
bers of  the  clearmg  house  return  or  exchange  the  items  drawn 
upon  his  bank,  which  items  he  passes  upon  and  turns  over  to  the 
bookkeepers  to  be  charged  to  the  proper  accounts. 

Since  the  teller  has  paid  out  an  equivalent  amount  of  cash  in 
one  form  or  another  for  these  items,  he  credits  himself  with  the 
items  received  and  charges  them  to  the  bookkeepers.  Now,  if  the 
amount  he  receives  from  the  clearing  house  is  less  than  the 
amount  of  the  items  he  sent  there,  it  is  obvious  that  the  bank  has 
a  credit  balance  at  the  clearing  house.  Instead  of  collecting  this 
in  actual  money,  the  teller  charges  the  federal  reserve  bank  with 
the  amount  and  credits  his  own  bank  under  the  head  "Lawful 
Reserve  with  the  Federal  Reserve  Bank."  The  banks  indebted 
to  the  clearing  house  make  provision  with  the  federal  reserve 
bank  to  charge  their  accounts  with  such  amount,  and  the  balances 
are  thus  settled  without  any  transfer  of  actual  money. 

Disposition  of  Items  Received  in  Exchange  for  Cash. — The 
paying  teller's  operations  at  the  window  result  in  an  accumula- 
tion of  checks  and  other  items  for  which  he  has  given  cash.  These 
items  are  sorted  into  two  main  groups,  one  consisting  of  checks 


VI]  PAYING  97 

drawn  upon  the  bank  itself  and  the  other  consisting  of  those 
drawn  upon  other  banks.  These  latter  items  are  first  entered  in 
a  memorandum  book  which  shows  the  name  of  the  bank  upon 
which  they  are  drawn,  the  indorscr  and  the  amount  of  each  check, 
and  then  disposed  of  by  charging  them  to  certain  other  depart- 
ments of  the  bank.  For  example,  checks  drawn  upon  members  of 
the  clearing  house  in  the  same  city  may  be  sent  to  the  city  collec- 
tion department  and  ultimately  to  the  clearing  house.  Such  items 
as  coupons  may  be  sent  to  a  special  coupon  collection  depart- 
ment. The  checks  drawn  on  the  bank  itself  are  sent  to  the  book- 
keepers handling  the  accounts  of  depositors.  Before  sending  out 
any  of  these  items,  the  paying  teller  makes  a  record  of  their  total 
amount  and  charges  the  departments  to  which  he  sends  them 
with  such  amount,  taking  credit  for  them  himself. 

Payment  of  Petty  Expenses  and  Salaries.— The  functions  so 
far  discussed  may  be  said  to  be  characteristic  of  the  paying  opera- 
tions. The  paying  teller  frequently  has  charge  of  various  inci- 
dental duties.  In  a  small  bank  these  may  be  numerous  but  are  not 
likely  to  involve  any  considerable  work,  but  in  a  large  bank  there 
may  be  a  number  of  special  clerks  to  assist  the  paying  teller  in 
performing  some  of  the  functions  termed  incidental. 

There  are,  for  example,  a  number  of  disbursements  of  cash 
which  are  made  by  the  paying  teller  to  meet  the  needs  of  the  bank 
itself.  Among  such  expenditures  are  those  made  for  postage  and 
revenue  stamps,  messenger  fees,  carfare,  and  various  other  petty 
matters  for  which  it  is  not  worth  while  to  make  separate  entry  on 
the  books  of  the  bank.  The  paying  teller  is  called  upon  also  to 
provide  the  cash  for  payments  due  to  the  bank's  employees,  such 
as  salaries,  payments  of  supper  money  for  overtime,  and  pay- 
ments of  bonuses  and  Christmas  gifts. 

Certification  of  Checks. — Another  duty  which  requires  con- 
siderable time  in  certain  large  city  banks  is  that  of  certifying 


98  BANKING  PRACTICE  [VI 

checks.  The  process  of  certifying  consists  in  stamping  the  word 
"Certified,"  "  Good  when  properly  indorsed,"  or  a  similar  legend 
upon  the  instrument,  after  which  it  is  signed  by  the  properly 
designated  ofhcer  or  employee  of  the  bank.  A  check  thus  certified 
is  an  obligation  of  the  bank,  the  payment  of  which  has  been 
guaranteed.  It  matters  not  what  the  status  of  the  individual 
signer  of  the  check  may  be,  the  holder  of  a  certified  check  can 
force  payment  when  he  presents  the  item.  The  purpose  of  certi- 
fying items  is  to  extend  their  usefulness.  When  a  check  has  been 
certified,  anyone  is  safe  in  receiving  it  provided  the  bank  is  solvent. 
The  holder  of  the  check  then  really  has  the  check  of  the  bank 
rather  than  the  check  of  an  individual  or  firm. 

Since  the  bank  assumes  the  responsibility  of  paying  certified 
items,  extreme  care  is  taken  to  see  that  no  checks  are  guaranteed 
unless  they  are  good;  and  the  bank  also  makes  sure  that  the  funds 
standing  to  the  credit  of  the  signer  of  the  check  shall  not  be  drawn 
out  before  the  certified  check  is  presented  and  deducted  from  the 
balance.  Since  certified  checks  are  practically  a  substitute  for 
money,  they  are  used  widely  in  the  settlement  of  stock  exchange 
transactions;  and  also  serve  as  deposits  in  evidence  of  good  faith 
when  making  sealed  bids  or  to  guarantee  the  fulfillment  of  a  con- 
tract. The  responsibility  for  the  certification  of  checks  usually 
falls  upon  the  paying  teller  unless  there  is  a  separate  certification 
department. 

The  procedure  in  certifying  a  check  varies  somewhat  in  differ- 
ent banks  but  in  essence  it  is  as  follows:  The  customer  presents 
his  check  drawn  either  to  his  own  order  or  to  the  order  of  some 
other  party,  and  requests  that  it  be  certified.  The  paying  teller 
ascertains  from  the  bookkeeper  whether  the  balance  of  the  de- 
positor is  sufficient  to  cover  the  check.  If  so,  he  instructs  the 
bookkeeper  to  hold  a  sufficient  part  of  the  balance  to  cover  the 
check  he  is  about  to  certify.  He  marks  the  check  "  Certified  "  and 
has  the  certification  or  guarantee  signed  by  the  proper  authority. 
He  then  sends  through  a  debit  and  a  credit  for  the  amount  of  the 


VI  ]  PAYING  99 

check,  the  debit  going  to  the  bookkeeper  who  has  charge  of  the 
account  in  question,  and  the  corresponding  credit  to  the  general 
ledger  bookkeeper,  or  to  the  certified  check  bookkeeper,  to  be 
credited  to  the  account  of  Certified  Checks  Outstanding.  The 
check  itself  is  then  handed  back  to  the  customer  who  disposes 
of  it  as  he  desires.  When  the  check  comes  back  to  the  bank  for 
payment  it  does  not  go  to  the  bookkeeper  who  has  charge  of  the 
signer's  account,  because  that  account  has  already  been  charged, 
but  to  the  bookkeeper  who  recorded  the  credit  to  Certified  Checks 
Outstanding  and  who  now  charges  this  account,  thus  balancing 
the  credit  previously  entered.  The  balance  in  the  Certified 
Checks  account  shows  the  bank's  liability  to  holders  of  certified 
instruments  at  any  given  time. 

The  Paying  Teller's  Daily  Proof.— At  the  end  of  the  day's 
work  the  paying  teller  makes  up  his  proof  for  the  purpose  of  as- 
certaining whether  any  errors  have  been  made  in  the  handling  of 
the  cash  during  the  day  and  of  furnishing  a  detailed  record  of  the 
bank's  cash  on  hand.  Beginning  with  the  balance  of  cash  in  the 
vault,  charged  to  him  on  the  preceding  day,  the  paying  teller 
adds  the  amount  of  the  items  sent  to  the  clearing  house  and  the 
amounts  of  cash  and  cash  items  received  from  the  other  tellers 
of  the  bank  during  the  day.  A  total  of  these  amounts  furnishes 
the  total  of  cash  and  cash  items  charged  to  him.  On  his  credit 
side  he  has  paid  out  some  cash  to  other  departments  and  he  has 
also  sent  cash  items  to  the  bookkeepers  and  various  other  em- 
ployees of  the  bank.  Accordingly,  on  the  credit  side  of  his  proof 
he  enters  the  amount  of  the  items  received  from  the  clearing  house 
during  the  day,  the  sums  of  money  he  has  sent  to  the  other  tellers 
of  the  bank,  and  the  checks  he  has  cashed  upon  his  own  bank  dur- 
ing the  day.  The  difference  between  these  two  sides  of  the  Cash 
account  represents  the  balance  for  the  day,  and  the  amount  is  en- 
tered upon  the  credit  side  of  the  proof.  This  should  equal  the  total 
amount  of  cash  and  cash  items  on  hand  at  the  end  of  the  day. 


100  BANKING  PRACTICE  (Vl 

To  put  this  process  in  somewhat  simpler  terms,  the  amount  of 
money  or  its  equivalent  which  the  paying  teller  has  at  the  end  of 
the  day  ought  to  equal  the  amount  he  had  at  the  beginning  of  the 
day  plus  any  additions  to  that  amount  and  less  the  subtractions 
made  from  it — as  shown  by  the  checks  and  other  items  paid  either 
directly  over  the  counter  or  indirectly  through  the  clearing  house. 
If  this  agreement  is  obtained,  the  teller  may  assume  that  the 
work  of  the  department  has  been  done  correctly.  If,  however, 
the  work  does  not  prove,  he  must  check  up  the  items  and  trans- 
actions handled  during  the  day  to  locate  the  error. 

A  belief  that  has  had  wide  acceptance  is  that  the  daily  settle- 
ments of  bank  tellers  must  be  made  to  "balance  to  the  penny." 
It  is  sometimes  impossible  to  find  the  "difference,"  as  the  tellers 
call  it,  and  in  many  cases  the  error  is  so  small  that  any  extended 
search  for  it  would  be  uneconomical.  An  "Over  and  Short" 
account  is  maintained,  and  this  is  credited  or  debited  as  the 
difference  indicates. 


CHAPTER  VII 
CLEARING 

Exchange  a  Primary  Banking  Function. — It  was  pointed  out 
in  an  earlier  chapter  that  one  of  the  essential  functions  of  a  bank 
is  to  provide  a  mechanism  of  exchange.  By  this  it  is  meant  that 
the  bank  provides  facilities  whereby  one  person  may  transfer 
funds  to  another  person  without  the  necessity  of  sending  the 
actual  money. 

This  function  antedated  by  centuries  some  of  the  activities 
which  are  characteristic  of  the  modern  bank.  The  bankers  and 
money-changers  in  the  Mediterranean  trading  cities  of  the  four- 
teenth and  fifteenth  centuries  obtained  a  large  part  of  their  profit 
by  furnishing  to  traders  in  one  city  the  facilities  for  transferring 
funds  to  persons  in  another  city.  In  order  to  carry  on  this  busi- 
ness the  bankers  established  branch  offices  in  the  important  trad- 
ing centers.  This  extension  of  their  operations  enabled  them  to 
draw  drafts  or  orders  of  payment  on  any  branch,  and  these 
documents  could  be  exchanged  for  actual  money  at  the  request 
of  the  merchant.  The  person  receiving  the  draft  could  in  turn 
obtain  the  sum  called  for  by  presenting  the  paper  at  any  of  the 
offices  of  the  banker.  For  this  service  the  bankers,  of  course, 
charged  a  fee,  and  it  is  said  that  the  volume  of  their  business  and 
its  profits  ran  into  very  large  figures. 

The  exchange  facilities  which  the  modern  bank  provides  vary, 
but  the  essential  feature  of  all  exchange  operations  is  the  transfer 
of  funds  from  one  person  to  another.  These  persons  may  carry 
on  business  in  the  same  city  or  community  or  they  may  be  at  a 
considerable  distance  from  each  other,  either  within  the  same 
country  or  in  different  countries.  The  exchange  machinery 
created  by  the  bank  brings  them  together  so  far  as  a  settlement 

lOI 


I02  BANKING  PRACTICE  [VII 

of  financial  transactions  is  concerned.  The  transactions  to  which 
the  term  may  be  applied  may  be  grouped  in  four  main  classes, 
varying  according  to  the  distance  between  the  parties. 

1.  Exchange  in  Its  Simplest  Form. — From  this  point  of  view 
the  most  rudimentary  use  of  the  exchange  facilities  provided  by 
a  bank  occurs  when  a  payment  is  made  by  one  individual  to 
another,  both  of  whom  are  depositors  in  the  same  bank.  In  such 
case  the  exchange  or  transfer  is  made  merely  by  an  entry  on  the 
books  of  the  bank.  For  example  assume  that  A  and  B  are  both 
depositors  in  Bank  X.  A  gives  B  a  check  for  $i,ooo,  and  B 
deposits  the  check.  The  exchange  is  made  when  the  bank  de- 
ducts from  A's  account  the  $i,ooo  called  for  by  the  check  and 
adds  it  to  the  balance  standing  in  the  name  of  B.  This  sort  of 
transaction  is  a  very  familiar  one  and  calls  for  no  extended 
discussion. 

2.  Local  Exchange — Clearing. — The  second  type  of  exchange 
transaction  occurs  when  the  transfer  is  made  between  individuals 
whose  accounts  are  in  different  banks  in  the  same  city.  A  has  his 
account  in  Bank  X,  B  has  his  in  Bank  Y.  A  draws  a  check  on 
Bank  X  and  gives  it  to  B,  who  deposits  it  in  Bank  Y.  The  ex- 
change now  is  made  between  the  banks  X  and  Y.  Bank  Y  takes 
the  check  on  Bank  X  and  collects  the  money,  which  it  credits  to 
B's  account;  Bank  X  deducts  the  amount  of  the  check  from  A's 
balance.  This  exchange  gives  rise  to  the  process  of  clearing  and, 
where  there  are  a  number  of  banks,  the  establishment  of  a  clear- 
ing house.  The  machinery  provided  by  the  banks  for  this  purpose 
is  the  subject  of  the  discussion  in  this  chapter. 

3.  Domestic  Intercommunity  Exchange — Transit.^A  third 
form  of  exchange  operations  appears  when  an  individual  draws 
his  check  on  a  bank  in  one  city  and  sends  it  to  another  person, 
who  deposits  it  in  his  own  bank  in  a  distant  city.     Say  that  A 


VII 1  CLEARING  103 

draws  a  check  on  Bank  X  in  Boston  and  sends  it  to  B,  who  de- 
posits it  to  his  credit  in  Bank  Y  in  New  Orleans.  Upon  depositing 
the  check,  B  obtains  from  the  bank  in  New  Orleans  the  right  to 
draw  in  actual  cash  the  amount  called  for.  But  there  still  remains 
the  question  as  to  how  Bank  Y  reimburses  itself.  It  might  do  so 
in  any  one  of  several  ways  which  will  be  discussed  in  more  detail 
in  the  succeeding  chapter,  but  the  simplest  way  can  be  illustrated 
by  assuming  that  both  X  and  Y  have  accounts  with  the  same 
bank  in  New  York. 

Bank  Y  now  sends  the  check  on  Bank  X  to  the  New  York 
bank,  and  the  amount  is  credited  to  its  balance  with  that  bank. 
The  check  is  at  the  same  time  charged  to  the  account  of  Bank  X, 
and  is  forwarded  to  it.  When  the  check  arrives  it  is  charged  by 
Bank  X  to  the  account  of  A.  Here  again  there  has  been,  in  effect, 
a  transfer  of  money  from  Boston  to  New  Orleans  by  the  simple 
process  of  transferring  credit  from  one  bank  to  another  on  the 
books  of  a  third  bank  in  New  York.  The  handling  of  items  in  this 
manner  between  banks  in  different  parts  of  the  country  is  spoken 
of  as  a  "transit  operation,"  and  the  checks  themselves  are  called 
"transit  items"  or  "transits."  The  discussion  of  this  function 
will  be  taken  up  in  the  following  chapter. 

4.  International  or  Foreign  Exchange. — The  fourth  kind  of 
exchange  transaction  occurs  when  the  transfer  of  funds  takes  place 
between  individuals  who  are  located  in  different  countries.  Such 
a  transfer  gives  rise  to  a  somewhat  more  complicated  business 
which  is  called  foreign  exchange.  The  exchanges  made  within  the 
same  country  are  spoken  of  as  domestic  exchange  transactions. 

These  various  transfers  may  be  made  by  personal  delivery  of 
the  funds  or  instruments  calling  for  funds,  as  is  the  case  in  the 
clearing  operations;  or  they  may  be  made  by  mail,  as  in  the  case 
of  transit  items  or  foreign  exchange  transactions;  or  finally,  they 
may  be  made  by  telegraph  or  cable,  as  is  the  case  in  certain 
domestic  and  foreign  exchange  transactions. 


104  BANKING  PRACTICE  [VII 

The  Clearing  Principle. — In  this  chapter  attention  is  devoted 
to  the  process  of  making  exchanges  among  banks  in  the  same 
community,  thus  bringing  to  view  the  clearing  principle  as  it  has 
been  worked  out  by  the  banks.  The  clearing  process  consists  of  a 
joint  meeting  by  the  representatives  of  associated  banks  for  the 
exchange  of  claims  which  the  various  banks  hold  against  each 
other,  and  the  payment  or  receipt  of  the  difference  between  the 
claims  and  the  obligations  of  each  bank.  If  there  are  ten  banks 
in  a  given  community,  each  will  probably  in  the  course  of  its  day's 
business  receive  from  its  depositors  checks  drawn  upon  each  of  the 
other  banks.  It  is  conceivable,  and  indeed  it  was  originally  the 
practice,  for  each  bank  under  such  circumstances  to  send  a 
messenger  to  collect  from  the  other  banks  the  checks  drawn  upon 
them.  It  is  clear  that  this  method  involves  the  employment  of  a 
considerable  number  of  messengers,  that  it  requires  a  large  amount 
of  time  to  collect  all  the  items,  and  that  there  is  great  risk  of  loss. 

A  great  saving  of  time  is  effected  when  the  messengers  from 
the  various  banks  come  together  at  a  central  point  and  each 
settles  with  every  other;  but  this  does  not  greatly  reduce  the 
amount  of  cash  needed  nor  does  it  by  any  means  result  in  the 
greatest  economy  of  time.  Further  economy  of  time  and  cash  is 
effected  when,  instead  of  settling  with  each  other,  each  settles 
with  a  single  outside  party  such  as  the  clearing  house,  and  each 
pays,  instead  of  the  amount  owed  to  every  other  member  bank, 
only  the  difference  between  the  total  amount  owed  to  and  the 
total  amount  due  from  all  the  other  banks.  This  clearing  prin- 
ciple— which  is  really  a  process  of  settling  for  differences — is 
carried  out  in  businesses  other  than  banking;  for  example,  the 
members  of  the  stock  exchange  and  of  the  grain  exchange  greatly 
facilitate  their  operations  by  settling  for  their  daily  transactions 
through  a  clearing  house. 

Advantages  of  a  Clearing  House. — The  establishment  of  a 
mechanism  for  clearing  or  exchanging  checks  or  other  items  re- 


VII  ]  CLEARING  IO5 

suits  in  the  following  advantages  for  the  banks  and  incidentally 
for  their  depositors:  (i)  the  amount  of  money  required  to  carry 
on  the  world's  business  is  smaller;  (2)  a  much  larger  volume  of 
business  can  be  handled  than  would  otherwise  be  possible  with 
the  same  number  of  clerks;  (3)  there  is  less  danger  of  loss  or  theft 
than  there  would  be  if  these  exchanges  were  made  by  messenger; 
and  (4)  much  less  time  is  required  to  effect  the  exchanges  than 
would  be  consumed  if  each  messenger  had  to  call  at  every  other 
bank  to  make  his  collections. 

Some  idea  of  the  possibility  of  economizing  in  the  use  of 
money  through  the  operation  of  the  clearing  house  may  be  ob- 
tained from  the  fact  that  in  sixty-one  years  the  New  York  Clear- 
ing House  settled  exchanges  amounting  to  $2,509,034,041,053,  by 
the  use  of  only  $117,797,140,257  in  actual  money.  That  is,  the 
amount  of  money  used  in  making  settlements  was  only  about  4.6 
per  cent  of  the  total  exchanges.  It  is  said  that  the  smallest  bal- 
ance ever  settled  at  the  New  York  Clearing  House  was  one  cent. 
Seven  million  dollars  of  items  have  been  settled  through  the 
clearing  house  by  the  payment  of  only  10  cents.  One  of  the 
Boston  banks,  it  is  said,  settled  a  day's  clearings  without  having 
any  balance.  It  is,  of  course,  however,  extremely  rare  that  the 
amount  of  the  checks  drawn  on  a  given  bank  and  cashed  by  other 
banks  will  exactly  balance  the  amount  drawn  on  all  the  other 
banks  and  cashed  by  the  first  bank. 

Organization  for  Clearing. — The  general  method  of  organiz- 
ing for  clearing  is  to  have  the  banks  of  a  given  community  agree 
on  a  common  meeting  place,  where  their  representatives  gather 
at  a  regular  hour  to  exchange  the  claims  which  each  holds  against 
the  other  banks  of  the  community.  The  difference  between  the 
amounts  owed  to  and  by  the  bank  in  question  is  the  amount  such 
bank  either  pays  or  receives  from  the  clearing  house.  In  the 
smaller  communities,  where  banks  are  not  numerous,  the  expense 
of  maintaining  a  building  and  an  organization  devoted  exclusively 


I06  BANKING  PRACTICE  [VII 

to  the  clearing  function  would  be  too  heavy  for  the  banks  to 
meet.  Consequently,  in  many  communities  the  representatives 
of  the  different  banks  meet  alternately  on  the  premises  of  the 
several  banks  and  there  make  their  exchanges.  Where  the  volume 
of  clearings  is  large  it  is  found  desirable  and  economical  to  estab- 
lish a  permanent  place  and  a  permanent  organization  for  clearing. 

The  Establishment  of  Clearing  Houses. — The  origin  of  the 
clearing  procedure  is  shrouded  in  uncertainty.  It  is  quite  likely 
that  bankers  and  others  very  early  realized  the  advantages  that 
could  be  obtained  by  meeting  in  a  common  place  to  effect  ex- 
changes among  themselves.  It  is  asserted  that  the  merchants  and 
bankers  of  Naples  had  some  such  arrangement  as  early  as  the 
fifteenth  century.  It  is  certain,  however,  that  in  1853  the  bank 
messengers  of  New  York  met  in  Wall  Street  to  exchange  checks 
and  notes — a  voluntary  arrangement  made  by  the  clerks  for 
their  own  convenience.  As  a  result  of  this  experience  the  repre- 
sentatives of  fifty-two  banks  met  November  11,  1853,  and 
adopted  a  plan  for  the  clearing  of  checks  and  the  settlement  of 
balances,  and  a  building  was  obtained  for  the  purpose.  Boston 
established  a  clearinghouse  in  1856,  Philadelphia  in  1858,  Chicago 
in  1865,  and  St.  Louis  in  1868.  At  present  nearly  every  town  or 
city  which  has  half  a  dozen  or  more  banks  has  an  arrangement  for 
daily  clearing  of  items. 

The  New  York  Clearing  House. — Since  the  principle  of  clear- 
ing is  the  same  no  matter  what  may  be  the  size  of  the  organization, 
the  mechanism  can  probably  best  be  understood  by  considering 
the  organization  and  operation  of  the  most  famous  clearing  house 
in  the  country.  The  New  York  Clearing  House  Association 
consists  of  some  sixty  banks  located  in  the  city  of  New  York  and 
includes  the  Federal  Reserve  Bank  of  New  York.  Until  the 
discontinuance  of  the  United  States  Sub-Treasury  at  New  York 
in  December,  1920,  the  sub-treasury  also  was  a  member.    The 


VII]  CLEARING  IO7 

clearing  house  association  is  an  unincorporated  co-operative  as- 
sociation, deriving  its  authority  from  the  written  assent  of  its 
members  to  its  constitution. 

Each  member  is  given  a  number;  for  example,  the  National 
City  Bank  is  number  8;  the  federal  reserve  bank  is  number  120; 
the  sub-treasury  was  number  75.  To  save  time,  the  members  are 
referred  to  by  number  rather  than  by  name  in  their  relations  with 
one  another.  A  glance  over  the  list  of  members  shows  that  the 
numbers  do  not  run  consecutively;  certain  gaps  occur  in  the  series. 
This  is  due  to  the  withdrawal  or  consolidation  of  various  mem- 
bers. The  vacancies  are  not  filled  and  when  new  members  are 
admitted  they  take  the  next  new  number.  Another  peculiarity 
of  the  association  is  that  a  city  collection  department,  which  will 
be  described  later,  is  organized  within  the  clearing  house.  This 
is  a  department  of  the  clearing  house  itself  and  is  given  the  dis- 
tinctive number,  200,  because  it  stands  in  special  relation  to  the 
members  of  the  association. 

How  Membership  Is  Obtained. — To  become  a  member  a 
bank  makes  formal  application.  If  this  receives  favorable  con- 
sideration by  the  committee  on  admissions  and  a  favorable  vote 
of  three-fourths  of  the  members  of  the  clearing  house  association 
who  are  present  at  the  meeting  when  the  application  is  presented, 
the  bank  is  admitted.  Each  member  must  have  an  unimpaired 
combined  capital  and  surplus  of  at  least  $1,000,000.  The  new 
member  is  required  to  signify  in  writing  its  assent  to  the  constitu- 
tion and  to  pay  an  admission  fee  which  varies  with  the  capital 
and  surplus.  For  example,  banks  having  a  capital  and  surplus  of 
more  than  $5,000,000  pay  an  admission  fee  of  $7,500,  while  those 
having  a  capital  and  surplus  of  less  than  that  amount  pay  $5,000. 
Members  may  be  suspended  by  the  joint  action  of  the  clearing 
house  and  the  conference  committees.  They  may  be  expelled  by 
an  affirmative  vote  of  the  majority  of  the  members.  On  the  other 
hand,  a  member  may  withdraw  from  the  association  at  any  time 


I08  BANKING  PRACTICE  [VII 

provided  it  pays  its  share  of  the  expenses  of  the  association  up  to 
the  time  of  withdrawal. 

The  federal  reserve  bank  has  the  status  of  a  special  member. 
It  is  not  required  to  sign  the  constitution,  nor  to  furnish  a  weekly- 
statement;  it  is  not  subject  to  the  clearing  house  rules  regarding 
collection  charges  and  it  has  no  vote.  In  other  respects  it  has  the 
status  of  a  regular  member  of  the  association. 

Clearing  for  Non-Member  Banks. — Many  banks  do  not  have 
a  volume  of  clearings  sufficient  to  make  it  worth  while  for  them 
to  become  members  of  the  association.  Provision  has  been  made 
whereby  such  banks  may  arrange  to  have  member  banks  clear 
for  them.  An  arrangement  of  this  sort  must  first  have  the  sanc- 
tion of  the  clearing  house  committee.  Banks  which  enjoy  the 
privilege  of  clearing  through  members  are  required  to  pay  $1,500 
a  year,  to  submit  to  examination  by  the  clearing  house  examiner, 
and  to  furnish  reports  to  the  association  in  the  same  manner  as 
members. 

The  Clearing  House  Manager. — The  administration  o'.  the 
clearing  house  association  is  vested  in  the  officers  and  the  standing 
committees  chosen  by  the  members  in  annual  meeting,  and  guided 
by  the  constitution  of  the  association.  The  president  and  secre- 
tary perform  the  functions  common  to  similar  officers  in  other 
organizations.  The  most  important  official  is  the  manager,  who 
is  appointed  annually  by  the  clearing  house  committee.  It  has 
been  customary  to  retain  the  same  manager  from  year  to  year; 
in  fact  there  have  been  only  four  incumbents  of  the  position  in 
the  sixty-five  years  of  the  existence  of  the  association.  The 
manager  has  full  charge  of  the  clearing  operations  and  during  the 
period  of  clearing  he  controls  the  clerks  and  employees  of  the 
association  as  well  as  the  employees  of  the  member  banks.  As 
superintendent  of  the  clearing  house  session,  he  maintains  dis- 
cipline on  the  floor,  adjusts  balances,  imposes  fines  for  violations 


VII]  CLEARING  109 

of  the  rules  of  procedure,  keeps  records  of  the  operations  of  the 
clearing  house,  and  performs  various  other  duties. 

Clearing  House  Committees. — There  are  five  standing  com- 
mittees to  regulate  matters  relating  to  the  clearing  house  itself, 
to  conferences,  admissions,  nominations,  and  arbitration.  The 
clearing  house  committee  has  the  most  important  functions.  It 
provides  for  the  maintenance  of  the  association  and  draws  upon 
the  members  for  their  share  of  the  expenses.  It  fixes  the  salaries 
of  all  the  employees  except  those  of  the  manager  and  assistant 
manager.  It  may  examine  a  member  bank  and,  if  it  deems  such  a 
course  necessary,  may  require  that  bank  to  deposit  securities  to 
insure  the  payment  of  its  balances  resulting  from  the  clearings. 
Subject  to  the  approval  of  the  association,  the  clearing  house 
committee  is  empowered  to  establish  a  scale  of  fines  for  errors  and 
to  provide  rules  to  govern  proceedings  when  they  are  not  provided 
for  in  the  constitution.  It  provides  for  the  issuance  of  clearing 
house  certificates  to  members  and  fixes  the  regulations  therefor, 
and  it  legislates  upon  the  subject  of  collections  outside  New  York 
City.  All  applications  of  banks  for  membership  or  for  the  privi- 
lege of  clearing  through  members  are  made  to  this  committee. 
This  committee,  with  the  consent  of  the  conference  committee, 
may  temporarily  suspend  members  of  the  association  when  it  is 
deemed  necessary. 

The  expenses  of  the  association,  except  those  arising  from  the 
work  of  the  department  of  examinations,  are  apportioned  among 
the  members  pro  rata  according  to  the  average  amount  of  clear- 
ings sent  by  each  member  to  the  clearing  house  during  the  preced- 
ing year,  with  a  minimum  charge  of  $1,000  a  year.  The  expenses 
of  the  department  of  examination  are  assessed  separately  against 
each  member  on  the  basis  of  gross  assets. 

Organization  of  Clearing  Work. — The  organization  for  effect- 
ing clearing  consists  of  a  few  permanent  employees  of  the  clearing 


no  BANKING  PRACTICE  [VII 

house  and  a  varying  number  of  representatives  from  the  member 
banks  who  come  to  the  clearing  house  for  the  purpose  of  making 
the  exchanges.  A  bank's  force  for  making  clearings  may  consist 
of  as  many  as  eight  men,  according  to  the  number  of  messengers, 
porters,  and  clerks  required  by  the  volume  of  the  work. 

The  essential  operations  of  clearing  may  be  reduced  to  two; 
the  delivery  of  items  to  the  banks  upon  which  they  are  drawn; 
and  the  receiving  and  recording  of  these  items  by  the  banks  in 
question.  Reduced  to  its  simplest  form,  the  clearing  house  opera- 
tion of  a  given  bank  may  be  performed  by  two  clerks,  a  delivery 
clerk  and  a  settling  clerk,  to  whom  are  delegated  the  tasks 
mentioned  above. 

Items  Handled  by  Clearing  House. — The  items  which  may  be 
sent  by  a  bank  through  the  clearing  house  include  in  general  all 
cash  items  payable  by  the  banks  which  are  entitled  to  use  the 
facilities  of  the  association.  All  ordinary  checks,  certified  checks, 
clean  drafts  and  bills  of  exchange  (a  clean  draft  is  one  which  is 
not  accompanied  by  a  bill  of  lading  or  other  shipping  papers), 
notes  and  accepted  drafts  which  are  due  and  which  are  drawn 
upon  or  payable  at  clearing  house  banks,  are  regularly  sent 
through  the  exchanges.  Items  which  bear  restrictive  or  qualified 
indorsements,  such  as  ''For  collection,"  or  "For  account  of," 
are  excluded  unless  the  sending  bank  guarantees  all  indorsements 
which  precede  its  own. 

In  practice  it  is  impossible  for  the  sending  bank  to  examine  the 
indorsements  of  every  one  of  the  thousands  of  checks  which  it 
daily  sends  through  the  exchanges.  Hence  it  is  the  custom  to 
guarantee  all  previous  indorsements  on  all  clearing  house  items. 
Furthermore,  the  association  requires  that  all  items  to  be  cleared 
be  indorsed  by  the  sending  bank,  with  an  accompanying  acknowl- 
edgment of  receipt  of  payment  through  the  clearing  house. 
The  member  banks  use  more  or  less  uniform  indorsement  stamps 
which  both  guarantee  previous  indorsements  and  acknowledge 


VII]  CLEARING  III 

receipt  of  payment  through  the  clearing  house.  These  indorse- 
ments are  stamped  on  the  checks  by  an  indorsing  machine  in  the 
case  of  banks  which  handle  a  large  number  of  items. 

Preparation  of  Checks  for  Clearance. — With  the  member 
banks  the  process  of  preparing  items  for  clearing  is  practically 
continuous.  Beginning  just  after  ten  o'clock  in  the  morning 
when  the  day's  regular  clearing  sessions  are  over,  the  items  which 
are  to  be  sent  to  the  clearing  house  for  exchange  are  sorted  by  the 
various  departments  and  accumulated  in  the  assembly  rack  de- 
partment, or  such  other  department  as  is  charged  with  the  work 
of  preparing  for  the  clearing.  Many  of  the  items  come  from  the 
mail  teller's  department.  In  large  banks  a  force  of  men  is  at 
work  all  night  opening  the  mail  and  sorting  the  items  according 
to  the  manner  in  which  they  are  to  be  handled.  Many  items  will 
be  received  in  the  morning  mail  and  some  will  be  taken  in  by  the 
receiving  teller  and  other  employees.  When  large  items  are  taken 
in  by  the  receiving  teller  before  ten  o'clock,  special  effort  is  made 
to  send  them  to  the  clearing  house  so  as  not  to  lose  a  day's  inter- 
est on  the  amounts.  The  items  for  the  clearing  house  are  sorted 
according  to  the  banks  which  are  to  make  payment,  and  are  en- 
closed in  a  standard  form  of  envelope,  to  the  outside  of  which  the 
hst  of  contents  is  attached. 

Clearing  House  Forms. — The  clearing  house  requires  certain 
forms  to  be  used  in  handling  the  day's  business: 

1.  The  exchange  slip,  which  lists  the  items  to  be  delivered  to  a 
given  bank.  One  of  these  slips  is  made  up  for  each  bank  against 
which  claims  are  presented,  and  the  slip  is  then  attached  to  the 
envelope  containing  the  claims  or  exchanges,  as  they  are  called. 

2.  The  small  ticket,  which  shows  the  name  of  the  bank  against 
which  the  claims  are  presented,  the  name  of  the  claimant,  and  the 
aggregate  claim  brought.  One  of  these  tickets  is  made  out  and 
presented  to  each  bank  in  the  clearing  house.    The  total  of  all 


112  BANKING  PRACTICE  [VI J 

these  tickets  presented  to  a  given  bank  is  the  amount  of  the  in- 
debtedness of  that  bank  to  the  clearing  house  for  the  day. 

3.  The  first  ticket  (Form  8),  which  gives  the  date,  name, 
clearing  house  number  of  the  claimant  bank,  and  the  aggregate 
of  exchanges  brought  by  it  for  the  day.  This  record  is  for  the 
use  of  the  proof  clerk  of  the  clearing  house,  and  represents,  it 
will  be  seen,  the  total  claim  of  a  given  bank  against  the  clearing 


o 


No.  8.  N?m  ^nrk  (Hlparing  I^oubp. 

_™_/%^.^ 1 9i'/.., 

Credit  THE  NATIONAL  CITY  BANK,  $/^^^^^,..>^^.3^^.. 

.^..s^..::^.^.^/znie^^t.^.sMUni  Clerk. 


Form  8.     Clearing  House  First  Ticket.     (Size  8>^  x  3>^.) 

house  for  items  drawn  upon  other  member  banks  which  it  has 
cashed. 

4.  The  settling  clerk's  receipt — a  form  containing  the  names 
of  the  clearing  house  banks  arranged  according  to  number  on  the 
left  side  and  a  column  to  the  right  for  the  total  claims  against 
each  and  the  signatures  of  the  clerks  who  receive  the  claims. 
This  form  is  for  the  purpose  of  securing  the  receipt  of  the  banks 
against  which  claims  are  presented.  All  but  the  column  for  signa- 
tures is  completed  in  preparation  for  the  clearing. 

Clearing  House  Sessions.— The  exchanges  are  taken  to  the 
clearing  house  at  one  of  its  two  regular  sessions,  held  at  nine  and 
at  ten  o'clock.  At  the  nine  o'clock  session  most  of  the  members 
meet  to  exchange  whatever  items  they  have  been  able  to  prepare 
for  clearing  up  to  that  time.  Inasmuch  as  most  of  the  banks 
operate  night  forces,  or  assembly  racks,  a  large  part  of  the  day's 


VII]  CLEARING  113 

exchanges  are  made  at  this  time.  No  forms  are  exchanged  and 
no  settlement  is  made.  This  session  is  held  merely  to  give  the 
banks  a  start  of  one  hour  upon  the  incoming  checks.  The  clerks 
and  bookkeepers  of  each  bank  are  thus  enabled  to  begin  their 
work  shortly  after  nine  o'clock,  instead  of  being  forced  to  wait 
until  after  ten,  and  therefore  any  items  which  must  be  returned 
to  the  sending  bank  because  of  irregularity  will  be  discovered  in 
time  to  return  them  the  same  day. 

The  Delivery  and  Receipt  of  Items. — The  main  session  of  the 
clearing  house  begins  at  ten  o'clock.  Shortly  before  that  hour  a 
representative  of  each  bank,  who  is  known  as  the  bank's  settling 
clerk  at  the  clearing  house  session,  takes  charge  of  the  items  pre- 
pared in  the  morning  together  with  the  forms  necessary  for  mak- 
ing the  exchanges.  Inside  the  clearing  house,  everything  is 
arranged  so  as  to  insure  the  rapid  transaction  of  the  work  and  the 
elimination  of  confusion.  A  desk  is  assigned  to  each  settling  clerk. 
These  desks  are  arranged  in  rows  in  the  order  of  the  bank's 
clearing  house  number.  The  settling  clerk  takes  his  station  be- 
hind the  desk,  while  the  delivery  clerk  with  his  envelopes, 
exchange  slips,  and  small  tickets,  together  with  the  forms  for 
obtaining  the  receipts  of  each  bank  to  which  he  makes  delivery, 
takes  his  place  in  front  of  the  desk. 

Promptly  at  ten  o'clock  the  signal  for  starting  the  exchange  of 
items  is  given  by  the  clearing  house  manager.  Each  delivery 
clerk  moves  forward  past  the  desk  of  each  of  the  other  banks,  and 
as  he  passes  he  leaves  with  the  settling  clerk  stationed  there  the 
envelope  containing  the  items,  exchange  slip,  and  the  small  ticket 
for  that  particular  bank.  He  obtains  the  settling  clerk's  receipt 
on  his  receipt  form  for  the  amount  of  the  claim  against  the  bank. 
After  he  has  delivered  his  packages  and  obtained  receipts  from 
all  the  other  banks,  he  returns  to  his  own  desk.  Each  bank  has 
now  delivered  to  the  other  banks  all  the  claims  held  against 
them. 


114  BANKING  PRACTICE  [VII 

The  Work  of  the  Settling  Clerk. — The  settling  clerk  of  each 
bank  has  now  received  all  the  claims  which  other  banks  have 
against  his  institution.  His  associate,  the  delivery  clerk  of  that 
bank,  takes  all  these  items  back  to  the  bank,  where  work  is  im- 
mediately begun  upon  them.  The  settling  clerk  remains  at  the 
clearing  house  and  makes  up  his  statement  (Form  9). 

The  credit  column  of  the  statement  sheet  of  each  bank  shows 
the  claims  which  have  been  brought  by  it  to  the  clearing  house, 
this  part  of  the  statement  having  been  prepared  before  coming  to 
the  clearing  house.  The  settling  clerk  completes  the  statement 
by  entering  from  the  exchange  slips  attached  to  the  envelopes 
containing  the  exchanges,  the  amounts  which  have  been  presented 
against  his  bank.  The  two  columns  are  then  added  and  the  differ- 
ence indicates  the  amount  owed  by  his  bank  to  the  clearing  house, 
or  the  amount  owed  by  the  clearing  house  to  the  bank. 

The  settling  clerk  then  makes  out  a  second  ticket,  showing 
the  bank's  debit  for  the  amount  of  exchanges  presented  against 
it,  its  credit  for  the  amount  brought,  and  the  amount  and  char- 
acter of  its  balance.  This  second  ticket  is  given  to  the  settling 
clerk  of  the  clearing  house. 

The  Daily  Clearing  House  Proof. — In  the  meantime  while  the 
settling  clerk  is  making  up  his  second  ticket,  the  proof  clerk  of 
the  clearing  house  has  started  work  on  a  proof  of  the  day's  work. 
The  columns  of  the  proof  sheets  are  headed  "Due  Clearing 
House,"  ''Banks  Dr.,"  "Banks  Cr.,"  "Due  Banks."  When  the 
settling  clerks  of  the  various  banks  first  appear  at  the  clearing 
house,  they  send  their  first  tickets  to  the  proof  clerk.  From  these 
he  prepares  the  "Banks  Cr."  column  of  his  proof  sheet.  This 
shows  the  total  claim,  as  was  pointed  out  before,  of  each  bank 
against  the  clearing  house.  When  the  second  tickets  are  sent  to 
the  proof  clerk,  he  prepares  the  other  columns  of  his  proof.  One 
of  these  columns,  "Banks  Dr.,"  shows  the  amount  of  each  bank's 
total  indebtedness  to  the  clearing  house;  another,  "Due  banks," 


VII] 


CLEARING 


115 


No.  8    THE  NATIONAL  CITY  BANK  OF  NEW  YORK. 

g-pttling  (Clrrkfl  ^tatrmrnt.                Tf/ac^ 

J. 

l9Zf 

Kc 

BANKS 

tT' — 

TOTAL  DEBIT 

No. 

BANKS                OR. 

1 

Bank  o(  N   Y.  Nal'l  Bkg  Ass'n. 

4  JZ9,^0^ 

30 

1 

Z,  Z5^305 

^/ 

2 

Bank  of  the  Manhattan  Company. 

^,  o3o./m 

7^ 

2 

/7,Z75.03Z 

ZO 

J 

Merchants'  National  Bank, 

3f/,  /Sf 

^/ 

J 

757Mf 

// 

4 

Mechaiiics'  &  Metals  Nat'l  Bank, 

J,  /7/2,  6f/ 

ff 

4 

/7,  s'of.  770 
Z. 3/6, 37^ 

(h5 

« 

Rank  of  America, 

3.  JS'A,  /^/ 

^7 

6 

ZZ 

li 

Chemical  National  Bank, 

^zr.  //J 

iO 

12 

^7^.0S<i 

yy 

59 

East  River  National  Bank, 

JA^iJ 

sz 

59 

7/5,  $7/ 

Z3 

63 

Second  National  Bank, 

3%  r^s' 

75 

60 

///,  771 
Z,  707,  75^ 

^7 

65 

First  National  Bank, 

/f-,Z^6.69'g 

7f 

65 

5f 

67 

Irving  National  Bank, 

t,07^,ZZ/^ 

70 

67 

I,  3S'7,^ZZ 

73 

70 

Bowery  Bank, 

^JJf 

63 

70 

7  7^7 

/7 

71 

N  Y  County  National  Bank, 

50,  <^Jf 

^ 

71 

Z//-.  030 

05 

72 

Continental  Bank, 

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Form  9.     Settling  Clerk's  Statement.     (Size  8  x  21 K.) 


Il6  BANKING  PRACTICE  [VII 

shows  the  balance  due  to  each  bank  from  the  clearing  house;  and 
another,  "Due  Clearing  House,"  shows  the  balance  due  from  each 
bank  to  the  clearing  house.  Some  banks  will  show  a  balance  due 
to  them,  whereas  the  rest  will  be  indebted  to  the  clearing  house. 
The  proof  of  the  clearing  house  operations  is  completed  when 
the  total  of  the  first  column  equals  that  of  the  fourth  column,  and 
the  total  of  the  second  column  equals  that  of  the  third.  The  total 
of  the  "Banks  Cr."  column  should  equal  the  total  of  the  "Banks 
Dr."  column,  because  every  claim  which  is  credited  to  a  bank 
must  be  debited  to  some  other.  Similarly  the  first  and  fourth 
columns  must  be  equal  or  there  would  be  a  balance  or  deficit 
for  the  clearing  house  after  all  the  banks  have  obtained  settle- 
ment. This  cannot  be  the  case,  because  the  clearing  house 
possesses  no  claims  of  its  own  but  merely  provides  a  place  and 
a  process  by  which  the  banks  can  settle  with  each  other.  The 
amounts  which  are  due  to  the  clearing  house  are  in  turn  due  from 
it  to  the  creditor  banks,  and  hence  the  total  amount  due  to  the 
clearing  house  must  equal  the  total  amount  due  to  the  banks. 
If  a  difference  exists,  the  amount  is  announced  and  the  clerks 
search  for  the  source  of  error.  Fines  are  imposed  upon  those  who 
are  responsible  for  the  error,  and  these  fines  are  increased  in 
amount  if  the  error  is  not  located  within  a  specified  time.  When 
the  proof  is  completed  the  manager  reads  the  balance  for  each 
bank  in  thousands  of  dollars,  and  the  balance  is  kept  by  the 
settling  clerks  to  serve  as  a  general  statement  of  the  day's  clear- 
ings for  the  use  of  the  officers  of  their  respective  banks. 

The  Payment  of  Clearing  House  Balances. — With  the  com- 
pletion of  the  proof,  the  day's  business  in  the  clearing  house  has 
been  accomplished.  There  remains,  however,  the  necessity  of 
settling  for  the  balances.  Some  banks  are  indebted  to  the  clear- 
ing house,  while  others  are  entitled  to  receive  funds  from  it. 
Formerly  these  balances  were  settled  by  the  debtor  banks  bring- 
ing to  the  clearing  house  actual  cash  or  prescribed  equivalents. 


VII]  CLEARING  II7 

At  a  later  hour  the  creditor  banks  used  to  appear  and  receive 
in  cash  the  amount  due  to  them.  This  system  was  both  cumber- 
some and  dangerous  since  it  involved  the  expense  and  risk  of 
carrying  millions  of  dollars  in  cash  through  the  streets  of  the  city 
each  day.  To  avoid  this  risky  and  cumbersome  method,  clearing 
house  gold  certificates  were  adopted  as  a  means  of  settling  bal- 
ances. The  member  banks  deposited  gold  with  the  clearing  house 
and  against  this  gold  certificates  were  issued.  These  certificates 
were  accepted  in  the  settlement  of  balances  due  at  the  clearing 
house. 

Since  the  establishment  of  the  federal  reserve  system  the 
adjustment  of  balances  has  been  made  through  the  Federal  Re- 
serve Bank  of  New  York.  Under  this  system  each  member  bank 
of  the  New  York  Clearing  House  Association  which  is  not  a 
member  of  the  federal  reserve  system  is  required  by  clearing  house 
rules  to  keep  a  balance  on  deposit  with  the  local  federal  reserve 
bank  or  to  make  other  arrangements  for  federal  reserve  funds 
with  which  to  settle  its  balances.  Those  banks  which  are  mem- 
bers of  the  federal  reserve  system  are  required  by  law  to  keep 
balances  with  the  New  York  Federal  Reserve  Bank  and  hence 
this  bank  holds  balances  available  for  the  use  of  every  clearing 
house  member. 

After  the  exchanges  have  been  effected,  the  clearing  house 
manager  sends  to  the  federal  reserve  bank  a  certified  list  of  the 
day's  balances.  By  special  agreement  between  the  clearing  house 
association,  the  member  banks,  and  the  Federal  Reserve  Bank  of 
New  York,  a  book  entry  is  made  whereby  the  federal  reserve 
bank  debits  the  accounts  of  all  clearing  house  debtors,  and  credits 
the  accounts  of  all  the  creditor  banks  for  the  amounts  of  their 
respective  balances.  Thus  each  creditor  bank  receives  settlement 
for  its  balance  in  the  form  of  an  additional  deposit  to  its  credit 
with  the  local  federal  reserve  bank.  As  for  the  debtor  banks,  the 
balance  which  each  has  to  its  credit  in  the  federal  reserve  bank 
undergoes  a  reduction. 


Il8  BANKING  PRACTICE  [VII 

Other  Methods  of  Settlement. — While  the  New  York  Clearing 
House  Association  makes  use  of  the  federal  reserve  bank  for  the 
purpose  of  the  settlement  of  balances,  many  communities  have 
no  such  facilities.  In  such  places  settlement  is  still  made  either 
by:  (i)  the  transfer  of  actual  money;  (2)  drawing  upon  a  gold 
settlement  fund  deposited  at  the  clearing  house;  (3)  drawing 
drafts  for  the  amount  of  the  balance  due  upon  some  correspondent 
bank  in  a  central  reserve  city;  or  (4)  the  use  of  clearing  house  due 
bills,  or  by  some  similar  method.  A  clearing  house  due  bill  is  an 
instrument  which  indicates  that  the  given  bank  has  credit  in  the 
clearing  house  for  a  certain  sum  as  represented  by  its  balance. 
This  due  bill  is  kept  by  the  bank  and  may  be  used  the  next  day  or 
at  any  succeeding  period  to  cancel  its  indebtedness  to  the  clear- 
ing house  when  balances  turn  against  it,  as  from  time  to  time 
they  do. 

Errors,  Adjustments,  Fines. — It  is  inevitable  that,  in  the 
handling  of  the  large  number  of  items  exchanged  daily  in  the 
New  York  Clearing  House,  a  considerable  number  of  transactions 
should  arise  requiring  an  adjustment  of  some  sort  to  be  made. 
Many  checks  are  paid  which  upon  closer  examination  the  drawee 
banks  are  unwilhng  to  pay,  either  because  of  insufficient  funds, 
unsatisfactory  signature,  stop-payment  order,  or  some  other 
difficulty.  Many  items,  besides,  are  sent  to  the  wrong  banks. 
For  the  adjustment  of  such  errors  the  procedure  is  outlined  by 
the  clearing  house  association.  All  errors  must  be  adjusted  by 
the  banks  themselves,  the  clearing  house  association  assuming  no 
responsibility  for  them.  The  adjustment  must  take  place  on  the 
same  day  on  which  the  errors  are  made.  Certain  fines  are  pre- 
scribed by  the  clearing  house  association;  these  are  imposed  and 
collected  from  the  offending  banks,  when  items  have  been  sent  to 
the  wrong  banks,  for  the  benefit  of  the  banks  which  have  been  put 
to  the  inconvenience  of  returning  the  items.  For  the  convenience 
of  members,  the  association  holds  a  special  daily  session  at  three 


VII 1  CLEARING  1 19 

o'clock  for  the  return  of  items  contained  in  the  morning  exchanges 
for  which  payment  is  refused. 

Other  Functions  of  the  Clearing  House  Association.^Besides 

providing  the  machinery  for  effecting  exchanges,  as  has  been 
described,  the  clearing  house  association  engages  in  certain  other 
activities.  The  most  important  of  these  are:  the  collection  of  cer- 
tain items  payable  at  city  and  country  banks;  the  establishment 
of  certain  uniform  practices  among  members  designed  for  their 
mutual  protection  and  benefit;  mutual  support  in  time  of  stress; 
examination  of  member  banks  from  time  to  time;  requirement  and 
publication  of  reports  of  condition  of  its  members. 

The  City  Collection  Department. — The  collection  of  items 
payable  at  certain  city  and  country  banks  was  a  natural  develop- 
ment of  the  work  of  the  clearing  house,  with  its  machinery  for 
effecting  exchanges  among  the  members.  The  beginning  was 
made  with  the  establishment  of  a  country  collection  department, 
the  function  of  which  was  to  receive  and  collect  for  its  members 
items  payable  at  out-of-town  banks.  This  department  served 
a  very  useful  purpose,  but,  after  the  establishment  of  the  federal 
reserve  system  and  the  extension  of  the  collection  facilities  of  that 
system,  the  work  of  making  country  collections  was  largely  taken 
over  by  the  federal  reserve  bank,  and  the  country  department  of 
the  clearing  house  was  closed.  More  recently  a  city  collection 
department  has  been  organized  and  this  is  in  successful  operation. 
The  function  of  this  department  is  to  make  collections  for  member 
banks  of  items  payable  at  certain  city  banks  not  in  the  association. 

Uniform  Regulations  for  Member  Banks. — Among  the  uni- 
form regulations  which  have  been  adopted  for  mutual  benefit  and 
protection,  the  most  important  have  to  do  with  the  rate  of  inter- 
est to  be  allowed  on  depositors'  balances,  the  estabhshment  of 
collection  and  exchange  charges,  and  the  standardization  of  re- 


120  BANKING  PRACTICE  [VII 

quirements  as  to  the  amount  and  method  of  calculation  of  cash 
reserve  to  be  kept  against  deposit  liability.  The  clearing  house 
association  establishes  from  time  to  time  the  maximum  rate  of 
interest  which  member  banks  may  pay  on  depositors'  balances. 
The  reason  for  so  doing  is  to  prevent  banks,  through  force  of  com- 
petition, from  paying  rates  of  interest  so  high  as  to  eliminate 
legitimate  profit  from  such  accounts.  It  is  recognized  that  the 
payment  of  interest  on  balances  is  a  matter  calling  for  coopera- 
tive rather  than  individual  action. 

The  association  recognizes  three  types  of  deposits:  (i)  de- 
posits or  certificates  of  deposit  payable  on  demand  or  within  30 
days,  due  to  any  bank  or  banker  located  in  the  United  States  or 
Canada,  except  a  mutual  savings  bank  located  in  the  New 
York  Federal  Reserve  District;  (2)  deposits  or  certificates  of  de- 
posit due  to  any  mutual  savings  bank  located  in  the  New  York 
Federal  Reserve  District  or  to  any  concern  other  than  a  bank; 
and  (3)  time  deposits  consisting  of  all  deposits  payable  after 
30  days. 

Interest  Rates  on  Depositors'  Balances.— With  respect  to 
demand  deposits  due  to  banks  and  bankers,  the  rate  payable  is 
based  upon  the  discount  rate  for  90-day  commercial  paper  at  the 
New  York  Federal  Reserve  Bank.  For  example,  when  the  dis- 
count rate  is  2  per  cent  or  less,  clearing  house  banks  are  permitted 
to  pay  a  maximum  rate  of  i  per  cent  per  annum  on  such  balances. 
For  each  ^  per  cent  in  excess  of  2  per  cent  which  the  federal 
reserve  rate  shows,  clearing  house  banks  may  increase  their  rates 
to  depositors  by  X  per  cent,  except  that  the  maximum  rate  to  be 
allowed  depositors  may  not  under  any  circumstances  exceed  2J4 
per  cent  per  annum.  The  maximum  rate  which  can  be  allowed  on 
deposits  of  mutual  savings  banks  in  the  New  York  District,  or  to 
individuals,  as  well  as  the  rate  on  time  deposits,  has  been  fixed  at 
3  per  cent  on  the  smaller  and  3K  per  cent  on  the  larger  class  of 
deposits. 


VII]  CLEARING  121 

Regulation  of  Exchange  Charges. — Exchange  charges  are 
Hkewise  regulated  in  the  interest  of  members.  The  tendency 
among  competing  banks  located  in  the  leading  collection  centers 
is  to  charge  a  low  rate  of  exchange  on  country  items;  if  possible, 
no  charge  at  all  is  made.  To  make  the  collecting  machinery  of 
its  members  self-supporting,  the  association  has  established  the 
minimum  rates  of  exchange  which  must  be  collected  from  deposi- 
tors for  transit  items  deposited  by  them. 

Regulation  of  Reserves. — A  third  direction  which  the  effort 
at  mutual  protection  takes  is  in  connection  with  the  regulation 
of  reserves.  The  necessity  for  this  action  grows  out  of  the  fact 
that  some  of  the  members  of  the  clearing  house  association 
have  their  reserve  requirements  fixed  by  the  Federal  Reserve 
Act,  whereas  other  members  are  operating  under  state  laws  and 
are  therefore  not  required  to  carry  the  same  percentage  of 
reserve.  While  the  clearing  house  rules  do  not  attempt  to 
change  the  legal  requirements  as  to  the  reserve  which  the 
members  must  carry,  they  do  specify  a  method  for  computing 
the  amount  of  net  demand  deposits  upon  which  the  reserve  is 
to  be  figured. 

The  member  banks  are  not  permitted  to  deduct  from  the  total 
deposits  those  secured  by  the  deposit  of  outstanding  unmatured 
stocks,  bonds,  or  other  obligations  of  the  state  or  city  of  New 
York,  or  deposits  to  the  amount  of  the  stocks,  bonds,  or  other  obli- 
gations of  the  state  or  city  of  New  York  owned  and  held  by  the 
bank,  before  computing  their  percentage  of  reserve.  The  rules  also 
provide  that  all  required  reserve  other  than  that  which  is  in  the 
form  of  cash  on  hand  must  be  maintained  in  the  form  of  a  deposit 
with  the  New  York  Federal  Reserve  Bank,  or  in  some  bank  which 
is  a  member  both  of  the  federal  reserve  system  and  the  clearing 
house  association,  or  with  any  other  member  of  the  association 
which  maintains  in  the  Federal  Reserve  Bank  of  New  York  the 
reserve  required  for  member  banks. 


122 


BANKING  PRACTICE 


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CLEARING 


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124  BANKING  PRACTICE  [VII 

Clearing  House  Loan  Certificates. — Another  activity  of  the 
clearing  house  association  is  to  give  mutual  support  in  time  of 
stress.  In  the  past  this  has  taken  the  concrete  form  of  the  issue 
of  loan  certificates  to  members  in  exchange  for  the  pledge  of  cer- 
tain of  the  assets  of  the  banks.  Periods  of  financial  stress  are 
accompanied  by  an  abnormal  demand  for  money.  Before  the 
establishment  of  the  federal  reserve  system  the  banks  of  New 
York  could  obtain  money  to  satisfy  these  demands  only  from  their 
own  vaults,  and  as  their  cash  began  to  run  low  the  problem  of 
conserving  the  supply  became  a  pressing  one.  A  considerable 
amount  of  cash  was  used  in  settlement  of  clearing  house  balances. 
A  scheme  was  devised  to  substitute  clearing  house  loan  certificates 
for  cash  in  the  settlement  of  balances.  Under  this  system  a  bank 
which  was  in  need  of  funds  took  to  the  clearing  house  bonds, 
commercial  paper,  or  other  collateral,  and  applied  for  a  loan  of 
clearing  house  certificates.  A  committee  of  the  association  passed 
upon  the  collateral  and,  if  satisfactory,  clearing  house  loan  cer- 
tificates which  were  the  joint  obligations  of  all  the  members  of 
the  association  were  issued  against  it.  These  could  be  used  in 
lieu  of  cash  in  transactions  with  the  clearing  house,  and  the  supply 
of  cash  was  thus  retained  for  other  purposes. 

Bank  Examinations. — Still  another  activity  of  the  association 
is  that  of  maintaining  watch  over  the  condition  of  member  banks. 
It  does  this  in  two  ways:  by  examining  the  banks  from  time  to 
time,  and  by  calling  for  frequent  reports  from  them.  An  examina- 
tion department  is  maintained,  the  function  of  which  is  to  ex- 
amine and  report  on  the  condition  and  practices  of  each  member 
bank  at  least  once  a  year.  In  addition,  special  examinations  can 
be  made  at  the  discretion  of  the  clearing  house  committee, 
as,  for  example,  when  any  member  bank  undergoes  a  change 
of  management  or  is  merged  with  another  bank.  Of  course, 
these  examinations  are  in  addition  to  those  made  by  public 
officials, 


VII]  CLEARING  1 25 

Weekly  Reports  of  Member  Banks. — In  addition  to  submit- 
ting to  clearing  house  examination,  every  bank  which  clears 
through  the  association,  except  the  federal  reserve  bank,  is  re- 
quired to  furnish  a  weekly  report  of  its  average  daily  condition, 
as  well  as  a  statement  of  its  actual  condition  at  the  close  of  busi- 
ness on  Friday.  These  reports  contain  the  total  of  loans,  discounts 
and  investments,  reserves,  deposits,  and  circulation  of  the  banks. 
They  give  the  association  information  regarding  the  standing  of 
each  member  and  thus  serve  as  a  check  upon  the  condition  and 
practices  of  each.  They  are  combined  into  a  weekly  statement 
of  clearing  house  banks  (Form  10),  and  are  published  in  the  fi- 
nancial columns  of  the  daily  papers.  Since  they  give  an  up-to- 
date  picture  of  the  financial  condition  of  the  banks  in  the  most 
important  commercial  center,  they  may  be  accepted  as  reflecting 
to  a  very  great  extent  the  banking  and  financial  condition 
throughout  the  country. 


CHAPTER  VIII 

TRANSITS 

Use  of  Checks  for  Transferring  Money. — The  third  class  of 
exchange  facilities  which  the  banks  furnish  is  in  connection  with 
the  use  of  checks  for  payments  between  persons  located  in  differ- 
ent towns  or  cities.  With  the  increase  in  the  number  of  banks  to 
the  point  where  almost  every  fair-sized  town  has  one  or  more 
such  institutions  and  with  the  great  complexity  of  the  products 
of  different  sections  of  the  country,  necessitating  the  modern 
system  of  the  division  of  labor  upon  which  system  the  satisfac- 
tion of  human  wants  depends,  there  has  been  a  marked  increase 
in  the  use  of  bank  checks  for  the  handling  of  commercial  transac- 
tions. It  has  been  estimated  that  from  90  to  95  per  cent  of  all 
commercial  transactions  are  effected  by  the  use  of  checks. 

Convenience  and  Economy  in  Remitting  by  Check. — When  a 
merchant  in  Ohio  buys  shoes  from  a  manufacturer  in  Massachu- 
setts he  usually  pays  his  bill  by  drawing  a  check  on  his  local  bank 
and  mailing  that  instrument  to  the  manufacturer.  He  can,  how- 
ever, buy  a  draft  from  his  local  bank  drawn  upon  its  account  in  a 
New  York  bank  and  can  send  this  instrument  to  the  shoe  manu- 
facturer, but  this  involves  a  little  more  trouble  and  may  cost  him 
something  if  his  local  bank  makes  a  charge  for  the  issue  of  the 
draft.  Another  reason  why  he  may  prefer  to  use  his  own  check 
is  that  the  charge  against  his  account  will  not  occur  until  the 
check  is  returned  from  Massachusetts  through  banking  channels. 
This  may  require  four  or  five  days  and  he  will  thus  have  the  use 
of  his  money  for  some  days  after  he  has  paid  his  bill.  If  he  buys 
a  draft  from  his  bank  he  must  pay  for  it  immediately.  For  these 
reasons  and  because  of  greater  convenience  as  to  denomination 

126 


VIII]  TRANSITS  127 

and  less  likelihood  of  monetary  loss,  the  check  has  become  the 
customary  medium  of  exchange,  and  bank  checks  have  become 
almost  as  common  as  paper  money. 

While  the  Ohio  merchant  in  the  illustration  completes  his  part 
in  the  transaction  easily,  there  still  remains  something  to  be  done. 
B  ef  ore  the  bankin  Massachusetts,  which  pay  s  the  holder  of  the  check 
the  amount  specified,  gets  its  money,  it  must  collect  the  check. 

The  Collection  of  Cash  Items. — The  use  of  the  word  "collect- 
ing" or  "collection"  as  referring  to  the  collection  of  cash  items 
may  cause  confusion,  inasmuch  as  the  word  "collection"  is  also 
used  in  a  technical  sense  to  indicate  another  kind  of  banking 
activity,  as  for  example,  in  connection  with  items  known  as  collec- 
tion items  and  the  collection  department.  As  was  pointed  out 
in  Chapter  IV  dealing  with  receiving  operations,  a  broad  dis- 
tinction exists  between  cash  items  and  collection  items,  the  latter 
being  those  checks,  notes,  drafts,  or  other  instruments  which  are 
not  accepted  as  cash  but  for  which  a  receipt  is  given  pending  con- 
version into  cash.  The  bank  acts  in  such  cases  in  the  capacity 
of  agent  for  the  depositor  of  the  collection  items.  When,  on  the 
other  hand,  items  are  accepted  as  cash  the  bank  gives  the  deposi- 
tor immediate  credit  and  usually  permits  him  to  draw  out  the 
amount  called  for  at  any  time.  But  these  items  must  also  be 
converted  into  cash,  and  the  processes  of  converting  checks  and 
other  cash  items  into  actual  cash  or  funds  subject  to  the  order  of 
the  bank  is  spoken  of  as  the  collection  of  cash  items. 

Transit  Items  and  Collection  Items. — The  previous  chapter 
dealt  with  the  collection  of  cash  items  which  are  payable  in  the 
same  city.  The  present  chapter  deals  with  the  collection  of 
cash  items  payable  in  different  cities.  These  items  are  sometimes 
spoken  of  as  country  items,  or  foreign  items,  or  transit  items. 

The  transit  department  does  not  usually  handle  collection 
items;  this  work  is  performed  by  a  separate  department.    Checks 


128  BANKING  PRACTICE  [VIII 

or  other  instruments  which  seem  to  be  properly  grouped  in  the 
class  of  cash  items  may  be  accepted  only  for  collection  because  of 
certain  conditions  which  make  the  bank  doubtful  whether  they 
will  be  settled  for  in  cash  immediately  upon  presentation  at  the 
place  of  payment.  Thus,  for  example,  if  a  check  is  postdated,  or 
if  it  appears  that  it  has  been  tampered  with,  or  if  it  has  previously 
been  presented  and  dishonored  because  of  insufficient  funds,  the 
receiving  bank  may  not  wish  to  assume  any  responsibility  for  its 
payment  and  therefore  accepts  it  only  for  collection. 

It  might  be  said  in  a  general  way  that  those  items  which  are 
not  accepted  for  collection  and  those  which  are  not  available  for 
exchange  through  the  clearing  house  are  transit  items.  In  the 
case  of  the  New  York  banks,  however,  there  is  an  exception  to 
this  classification.  Certain  items  which  are  spoken  of  as  "  trusts  " 
are  not  handled  by  the  transit  department  although  they  are 
neither  received  as  collection  items  nor  are  they  cleared  regularly 
through  the  clearing  house  association.  The  name  "trusts"  is 
given  to  those  cash  items  which  are  drawn  upon  institutions 
reached  by  the  city  collection  department  of  the  New  York 
Clearing  House. 

In  191 7  the  New  York  Clearing  House  Association  began  to 
make  collection  of  items  drawn  upon  certain  non-clearing  banks, 
individuals,  firms,  and  corporations.  These  banks  and  indivi- 
duals are  those  against  which  the  heaviest  collections  normally 
had  to  be  made  by  the  member  banks.  Each  bank  prepares  such 
items  and  takes  them  to  the  clearing  house  at  ten  o'clock.  The 
items  are  sorted  according  to  the  person  or  institution  upon  which 
they  are  drawn  and  placed  in  an  envelope  to  which  is  attached  a 
list  indicating  the  contents.  A  receipt  is  obtained  from  the 
clearing  house  for  these  items,  and  the  association  then  prepares 
a  regular  form  of  route  sheet  upon  which  is  entered  the  amount  to 
be  collected  from  every  drawee  bank.  The  city  collection  de- 
partment of  the  clearing  house  delivers  these  envelopes  to  the 
banks  upon  which  the  items  are  drawn,  and  obtains  checks  drawn 


VIII]  TRANSITS  129 

upon  clearing  house  banks  for  such  items.  At  the  regular  session 
of  the  clearing  house  at  ten  o'clock  the  next  day,  the  receiving 
bank  presents  its  receipt  for  the  items  which  were  presented  by  it 
on  the  previous  day  and  clears  this  sum  in  the  regular  way.  If 
any  of  these  items  have  been  returned  unpaid  they  are  deducted 
by  the  clearing  house  collection  department  from  the  claim  of  the 
receiving  bank  and  the  balance  is  then  paid.  The  funds  arising 
from  the  collection  of  trusts  are  thus  available  the  day  after  they 
have  been  deposited. 

The  Transit  Department  and  Its  Banking  Connections. — 

In  some  banks  the  collection  of  transit  items  is  not  heavy  enough 
to  require  the  establishment  of  a  separate  department,  but  in  a 
large  bank  the  work  is  handled  by  a  special  transit  department. 
For  a  correct  understanding  of  the  process  of  collecting  such 
items  a  knowledge  of  interbank  relations  is  necessary. 

Every  bank  maintains  a  running  account  with  one  or  more 
other  banks.  Before  the  establishment  of  the  federal  reserve 
system  it  was  customary  for  the  banks  in  small  towns  and  rural 
districts  to  maintain  accounts  with  one  or  more  banks  in  their 
nearest  large  cities.  These  city  banks  in  turn  maintained  ac- 
counts with  the  banks  in  one  or  more  of  the  three  main  centers, 
New  York,  Chicago,  and  St.  Louis;  and  this  practice  has  very 
largely  continued  although  the  establishment  of  the  federal 
reserve  system  has  modified  it  in  some  slight  respects.  Hence  it  is 
correct  to  say  that  practically  every  bank  in  the  country  has 
direct  or  indirect  connections  with  the  leading  banks  in  the  chief 
cities  of  the  country. 

Correspondent  Banks. — Banks  having  direct  connections  with 
each  other  refer  to  each  other  as  correspondents.  Thus  a  Des 
Moines  bank  refers  to  the  Continental  and  Commercial  Bank  of 
Chicago  as  its  Chicago  correspondent,  and  to  the  National  City 
Bank  of  New  York  as  its  New  York  correspondent.    Many  of  the 


I30  BANKING  PRACTICE  (VIII 

banks  in  the  larger  cities  make  special  efforts  to  secure  accounts 
of  out-of-town  banks.  The  accounts  are  opened  under  special 
agreements  which  specify  each  bank's  obligations  and  fix  the 
remuneration  to  be  obtained  from  the  collection  of  transit  items. 
These  agreements  are  filed  with  the  transit  department.  In 
general,  the  out-of-town  bank  agrees  to  receive  items  drawn  upon 
specified  banks,  including  those  drawn  upon  itself  and  upon  other 
banks  in  a  more  or  less  extended  territory.  It  is  agreed  that 
certain  rates  of  exchange  may  be  charged  by  the  collecting  bank. 
The  country  correspondent  agrees  to  maintain  with  the  city 
bank  a  certain  average  balance  on  which  it  usually  receives  a 
specified  rate  of  interest. 

Service  of  a  City  Correspondent.— Such  accounts  have  been 
maintained  for  three  main  reasons:  First,  until  the  passage  of  the 
Federal  Reserve  Act  the  country  banks  were  permitted  to  count 
as  part  of  their  legal  reserve  their  balances  with  the  city  corre- 
spondents. Hence  it  was  more  profitable  for  a  Des  Moines  bank, 
for  instance,  to  deposit  all  of  its  reserve  above  what  it  needed  at 
home  with  the  New  York  or  Chicago  bank  than  it  was  to  keep  the 
funds  actually  in  its  own  vaults,  for  the  city  correspondents  paid 
interest  on  such  balances,  whereas,  if  the  money  had  been  kept  in 
the  bank's  own  vaults  no  interest  would  have  been  received. 

A  second  advantage  in  carrying  such  accounts  was  that  they 
enabled  the  interior  bank  to  sell  drafts  on  the  city  correspondents 
to  local  customers.  It  often  happens  that  manufacturers  or 
jobbers  refuse  to  accept  local  checks  in  payment  of  goods  sold, 
but  demand  payment  by  New  York  or  Chicago  draft  which  will 
be  readily  accepted  as  cash  at  par  when  deposited.  For  providing 
this  means  of  payment  the  interior  bank  sometimes  collects  a 
small  fee  called  exchange,  and  in  the  case  of  some  banks  this  is  a 
very  profitable  portion  of  their  business.  The  third  reason  for 
maintaining  an  account  with  a  city  bank  is  that  the  city  corre- 
spondents may  be  used  as  agencies  to  collect  the  transit  items 


VIII] 


TRANSITS 


131 


which  the  interior  bank  receives.  Every  bank  in  the  course  of  its 
day's  business  receives  checks  drawn  on  banks  in  other  places. 
Some  of  these  banks  may  be  near  at  hand  and  the  items  may  be 


THE  NATIONAL  CITY  BANK  OF  NEW  YORK 

We  enclose  for  collection  items  as  listed  below : 

UNLESS  OTHERWISE  INSTRUCTED.-Do  not  hold  coUecdoiu  for  the  convenience  of  partlei. 
Surrender  documents  attached  to  drafts  only  on  payment  of  same.  PROTEST  and  RETURN 
without  delay  all  dishonored  paper.    Telegraph  non-payment  of  all  items  over  $500. 

DO  NOT  PROTEST  ITEMS  $10.00  OR  UNDER. 


To 


10/38/31 


CITIZENS  AND  SOUTHERN  BANK 
SAVANNAH,  GEORGIA. 

FOD 


64  808 
64  356 
64  733 
64  893 

BANK  OF  VIENNA,  VIENNA  GA. 
PEOPLES  BANK,  SUMMIT  GA. 


45.67 

133.43 

334.67 

134.73 

1.01 

5.87 

545.370 


Do  Not  Protest  Item*  bearing  the  symbol  (N.P.  1-8),  or  a  similar  authorlri  of  a  preceding  endorser. 


Form  II.     Remittance  Letter  to  Correspondent  Bank.     (Size  6x7.) 

collected  by  local  arrangement.  But  checks  which  are  payable 
at  distant  places  have  been  almost  invariably  collected  through 
city  correspondents.  Form  1 1  is  a  specimen  of  a  remittance  letter 
sent  with  items  for  collection. 


132  BANKING  PRACTICE  [VIII 

Reciprocal   Agreements   between   Correspondent   Banks. — 

The  arrangement  between  banks  is  usually  a  reciprocal  one;  that 
is,  a  bank  in  Manchester,  New  Hampshire,  may  send  to  its  Boston 
correspondent  all  the  items  it  receives  which  are  payable  south 
and  west  of  Boston;  and  in  exchange  it  may  agree  to  collect  all  the 
items  that  the  Boston  bank  receives  which  are  payable  anywhere 
in  New  Hampshire.  To  look  into  the  matter  somewhat  further 
for  the  sake  of  clarity,  it  may  be  asked,  assuming  the  reciprocal 
arrangement  as  just  described,  how  does  the  Manchester  bank, 
for  example,  collect  the  items  which  the  Boston  bank  sends  to  it? 
There  is,  of  course,  always  the  possibility  of  collecting  by 
sending  the  cash  items  direct;  that  is,  if  a  check  sent  to  the  Man- 
chester bank  were  payable  at  Portsmouth,  and  assuming  that  the 
Manchester  and  Portsmouth  banks  did  not  carry  accounts  with 
each  other,  the  item  might  be  sent  to  Portsmouth  direct  with  the 
request  that  the  paying  bank  remit  the  amount  by  means  of  a 
draft  on  New  York  or  Boston.  This,  however,  would  usually  be 
distasteful  to  the  Portsmouth  bank  because  it  would  mean  that 
its  interest-bearing  account  in  New  York  or  Boston  would  be 
reduced  immediately,  whereas  if  the  check  were  sent  in  the  usual 
course  through  one  or  more  other  banks,  thus  reaching  Ports- 
mouth indirectly,  there  would  be  a  longer  time  during  which  the 
bank  would  not  have  to  pay  the  check,  and  therefore  the  bank 
would  gain  interest  for  this  period  of  time  on  the  amount  of  money 
involved.  To  compensate  itself  for  this  possible  loss  of  interest 
and  for  the  trouble  and  expense  it  suffered  in  building  up  its 
balance  in  New  York  or  Boston,  the  Portsmouth  bank  upon  re- 
mitting would  deduct  a  small  fee,  called  exchange,  from  the  face 
of  the  item.  To  avoid  this  charge  the  Manchester  bank  would 
usually  prefer  a  cheaper  roundabout  method  of  collection. 

The  Clearing  Process  in  Transit  Operations. — If  the  decision 
has  been  made  to  collect  indirectly,  how  does  the  Manchester 
bank  obtain  its  funds?    It  does  so  by  an  extension  of  the  clearing 


villi  TRANSITS  133 

principle — by  a  process  of  offsetting  the  amounts  it  owes  with  the 
amounts  owed  to  it  by  other  banks.  While  it  was  assumed  that 
the  Manchester  bank  has  no  direct  connection  with  the  Ports- 
mouth bank,  it  is  altogether  likely  that  the  bank  in  Portsmouth 
and  the  bank  in  Manchester  each  have  a  running  account  at  a 
bank  located  conveniently  for  both  of  them.  Accordingly  the 
Manchester  bank  sends  the  items  to  this  third  bank  and  asks 
that  they  be  credited  to  its  account.  This  bank  in  turn  charges 
the  checks  to  the  account  of  the  Portsmouth  bank  and  sends  the 
items  to  it.  By  this  process  the  Manchester  bank  has  been  re- 
imbursed for  the  items  and  the  Portsmouth  bank  has  paid  them. 
Now  the  account  of  the  Boston  bank  with  the  Manchester  bank 
is  credited  and  the  exchange  has  been  completed. 

Reciprocal  accounts  are  sometimes  settled  only  at  intervals 
by  banks  which  do  not  have  a  heavy  indebtedness  either  way. 
Once  a  week  or  once  every  two  weeks  the  one  bank  credits  the 
other  with  all  cash  items  drawn  upon  it  and  paid  by  the  other. 
At  the  end  of  the  period  agreed  upon,  the  balance  is  ascertained 
and  the  bank  which  is  the  debtor  on  the  balance  remits  to  the 
creditor  bank  a  New  York  draft  or  a  similar  acceptable  medium 
to  settle  the  account.  Items  which  come  in  thereafter  are  settled 
for  at  the  end  of  the  next  period. 

Clearing  Houses  as  Aids  in  Transit  Collections. ^Through 
the  various  clearing  house  associations  the  banks  have  increased 
the  efficiency  of  the  exchange  machinery.  Clearing  houses 
usually  arrange  to  collect  transit  items  on  all  points  in  their 
vicinity.  They  are  able  to  do  this  very  readily  because  they  col- 
lect the  amounts  from  the  various  members  of  the  clearing  house, 
and  each  member,  being  in  touch  with  a  considerable  number  of 
correspondent  banks  in  its  vicinity,  agrees  to  accept  and  pay  for 
items  drawn  upon  these  institutions  and  reimburses  itself  merely 
by  a  transfer  of  credit  on  its  books  from  the  debtor  bank  to  itself. 
The  Boston  Clearing  House,  for  example,  adopted  a  plan  in  1899 


134  BANKING  PRACTICE  [VIII 

under  which  it  agreed  to  collect  checks  on  all  New  England  points. 
The  Kansas  City  Clearing  House  established  a  collecting  system 
during  1905  which  covers  a  considerable  portion  of  the  Middle 
West.  The  Atlanta  Clearing  House  established  a  collection  sys- 
tem in  1909.  The  advantage  of  all  these  systems  is  that  they 
provide  a  much  larger  field  over  which  collections  can  be  made 
without  the  necessity  of  asking  for  direct  remittances  from  the 
place  of  payment. 

Federal  Reserve  System  as  Aid  to  Transit  Collections. — 
The  most  notable  improvement  of  the  collecting  machinery  has 
been  made  possible  by  the  federal  reserve  system.  Under  this 
system  there  are  twelve  districts  with  a  federal  reserve  bank  in 
each.  All  the  national  banks  and  many  of  the  state  banks  and 
trust  companies  in  a  district  carry  permanent  accounts  with  the 
federal  reserve  bank  of  that  district.  From  what  has  thus  far 
been  said  it  can  readily  be  seen  that  so  far  as  these  banks  are 
concerned  the  process  of  collecting  transit  items  becomes  one  of 
merely  sending  checks  to  the  reserve  bank  of  the  district,  and  this 
bank  by  bookkeeping  entries  transfers  the  amounts  called  for  by 
the  items  from  the  accounts  of  the  banks  upon  which  they  are 
drawn  to  the  accounts  of  the  sending  banks. 

The  territory  over  which  this  process  can  be  carried  on  is 
further  extended  by  the  fact  that  there  is  a  very  close  connection 
between  the  twelve  reserve  banks;  hence  a  member  bank  in  any 
district  may  send  items  drawn  on  member  banks  and  certain 
others  in  any  other  reserve  district  to  the  reserve  bank  of  such 
district.  For  example,  a  New  York  national  or  member  bank 
would  send  all  items  drawn  on  other  member  banks  within  the 
New  York  district  to  the  New  York  Federal  Reserve  Bank  for 
credit,  whereas  any  items  payable  in  the  Chicago  district  would 
be  sent  to  the  Chicago  Federal  Reserve  Bank;  similarly  any  pay- 
able in  the  Richmond  district  would  be  sent  to  the  Richmond 
Federal  Reserve  Bank.  These  banks  would  be  requested  to  credit 


VIII]  TRANSITS  135 

the  account  of  the  New  York  Federal  Reserve  Bank.  This  bank 
in  turn,  on  the  basis  of  the  credit  which  it  received  in  Chicago 
and  Richmond,  would  credit  the  account  of  the  New  York  member 
bank. 

The  Gold  Settlement  Fund. — In  the  collection  of  transit  items 
another  step  remains  to  be  taken.  As  has  just  been  indicated, 
the  twelve  reserve  banks  carry  reciprocal  accounts  with  each 
other  and  charge  or  credit  the  other  reserve  banks  as  occasion 
requires,  but  it  has  not  yet  been  shown  how  these  banks  them- 
selves obtain  reimbursement;  that  is,  if  the  reserve  bank  at  Bos- 
ton owes  the  reserve  bank  at  Cleveland,  how  does  the  Cleveland 
bank  get  its  money?  For  this  purpose  the  clearing  principle  is 
again  invoked.  A  clearance  fund,  known  as  the  gold  settlement 
fund,  was  established  in  191 5  under  the  control  of  the  Federal 
Reserve  Board  at  Washington.  This  fund  is  kept  in  the  United 
States  Treasury  as  a  special  account  of  the  Federal  Reserve 
Board.  Each  reserve  bank  at  the  time  the  fund  was  established 
was  required  to  deposit  $1,000,000  in  gold  or  in  gold  certificates, 
and  in  addition  an  amount  equal  to  the  net  indebtedness  due  to 
all  federal  reserve  banks  at  that  time.  Each  reserve  bank  is  now 
required  to  keep  at  all  times  in  this  fund  a  balance  of  not  less 
than  $1,000,000,  which  balance  counts  as  a  part  of  its  lawful 
reserve. 

At  the  close  of  business  daily  each  federal  reserve  bank  tele- 
graphs to  the  Federal  Reserve  Board  the  amounts  due  from  it  to 
each  of  the  other  reserve  banks,  and  the  following  day  the  settling 
clerks  at  Washington  adjust  these  debits  and  credits  by  book 
entries.  If  this  settlement  results  in  reducing  the  amount  stand- 
ing to  the  credit  of  any  of  the  reserve  banks  below  the  minimum 
prescribed,  the  balance  is  made  up  by  a  deposit  of  additional  gold 
or  gold  certificates  in  the  Treasury  or  at  any  sub-treasury  in  the 
United  States,  or  by  rediscounting  with  such  other  reserve  banks 
as  have  an  excess  balance  in  the  fund. 


136  BANKING  PRACTICE  [VIII 

Items  Accepted  by  Reserve  Banks  for  Collection. — The  re- 
serve banks  will  accept  for  collection  in  the  manner  described 
above  only  certain  kinds  of  instruments.  Each  month  a  detailed 
list  is  published  by  every  reserve  bank  enumerating  the  items 
which  it  will  undertake  to  collect  at  par.  The  items  must  be  clean 
documents,  drawn  upon  member  banks  of  the  federal  reserve 
system,  or  items  drawn  upon  federal  reserve  banks,  or  those 
drawn  upon  non-member  banks  which  are  members  of  the  clear- 
ing houses  situated  in  the  twelve  federal  reserve  cities,  or  those 
drawn  upon  other  banks  which  will  remit  at  par.  The  last  classi- 
fication includes  those  banks  which  under  the  privileges  conferred 
upon  them  by  the  Federal  Reserve  Board  announcement  of  June, 
191 7,  have  agreed  to  remit  at  par  for  all  checks  presented  to  them 
by  the  federal  reserve  banks  in  return  for  the  privilege  of  sending 
their  foreign  items  through  the  federal  reserve  banks  for  collec- 
tion. No  exchange  is  charged  upon  the  items  collected  by  the 
reserve  banks,  but  the  proceeds  of  the  collection  are  available  for 
use  only  after  collection  has  actually  been  effected. 

Time  Required  for  Collecting  Transit  Items. — In  order  that 
the  banks  may  know  when  the  transit  items  which  they  have  de- 
posited are  available  as  cash,  each  reserve  bank  publishes  a  list 
showing  the  length  of  time  required  to  obtain  the  funds  for  credit. 
This  time  is  based  on  the  number  of  days  required  for  mail  to 
reach  the  place  of  payment  plus  the  time  required  for  the  reserve 
bank  to  receive  remittance  in  return.  All  points  are  classified  into 
divisions  according  to  these  periods  of  time.  Thus,  there  are 
items  available  for  credit  immediately  and  those  available  after 
one,  two,  four,  or  eight  days.  All  items  except  those  that  are  im- 
mediately available  are  entered  to  the  credit  of  a  special  account 
of  the  sender  at  par,  that  is,  no  exchange  charge  is  made  for  col- 
lection. But  this  credit  is  not  available  as  reserve  nor  for  the  pay- 
ment of  checks  until  the  period  required  for  collection  has  expired. 

Suppose  that  a  New  York  bank  on  a  given  day  sends  transit 


VIII]  TRANSITS  137 

items  amounting  to  $70,000  to  the  federal  reserve  bank,  the  total 
being  made  up  of  amounts  payable  as  follows:  Brooklyn  $24,000, 
Detroit  $20,000,  New  Orleans  $16,000,  Tulsa  $10,000.  In  han- 
dling these  items  the  federal  reserve  bank  credits  the  collection 
account  of  the  New  York  bank  for  $70,000,  but  on  that  day  only 
the  $24,000  represented  by  the  Brooklyn  checks,  which  are  of 
immediate  availability  if  delivered  before  nine  o'clock,  are 
credited  to  the  reserve  account  of  the  bank.  On  the  second  day 
after  the  deposit  the  reserve  account  w^ould  be  increased  by 
$20,000,  the  amount  of  the  Detroit  or  two-day  check;  on  the 
fourth  day  it  would  be  increased  by  $16,000,  the  amount  of  the 
New  Orleans  or  four-day  item;  and  on  the  eighth  day  it  would  be 
increased  by  $10,000,  the  amount  of  the  Tulsa  or  eight-day  check. 

The  "  Float  "  and  Its  Cost. — The  cash  items  which  the  mem- 
ber banks  have  deposited  but  which  are  not  immediately  avail- 
able for  reserve  or  for  draft  comprise  what  is  called  the  "float." 
In  the  case  of  a  bank  which  handles  a  large  number  of  items  the 
amount  outstanding  in  this  way  runs  into  very  large  figures. 
Before  the  establishment  of  the  federal  reserve  system,  the  banks 
in  New  York  and  other  important  financial  centers  usually  per- 
mitted their  correspondents  to  draw  against  such  items  immedi- 
ately after  deposit.  The  inability  to  receive  immediate  credit  for 
transit  items  is  one  of  the  grounds  on  which  some  banks  have 
remained  outside  of  the  reserve  system,  for  they  insist  that  the 
loss  of  interest  on  these  large  sums  which  cannot  be  used  for 
several  days  makes  membership  in  the  reserve  system  very  ex- 
pensive. There  are,  however,  advantages  in  membership  which 
to  most  students  of  the  subject  have  seemed  to  compensate  for 
such  loss,  but  the  discussion  of  this  branch  of  the  subject  would 
lead  too  far  afield  from  the  present  study  of  banking  practice. 

The  Operations  of  the  Transit  Department. — The  work  of 
collecting  cash  items  through  the  federal  reserve  banks  and 


138  BANKING  PRACTICE  [VIII 

through  out-of-town  correspondents  is  supervised  within  the 
bank  by  a  transit  department.  The  items  which  are  to  be  col- 
lected are  obtained  from  various  departments  of  the  bank,  but 
the  receiving  teller's  department  which  handles  over-the-counter 
receipts  and  receipts  by  mail  furnishes  the  bulk  of  the  items. 
During  the  morning  each  department  sorts  and  sends  all  its  out- 
of-town  items  to  the  transit  department.  In  large  banks  this 
department  operates  in  three  sections:  the  night,  the  morning, 
and  the  afternoon  sections.  The  clerks  at  each  rack  sort  the 
items  received  for  their  group  of  states  according  to  the  banks  to 
which  the  items  are  to  be  sent  for  collection.  In  general,  these 
clerks  are  familiar  with  the  course  which  checks  on  any  part  of 
the  country  are  to  take.  For  reference,  however,  in  case  of  un- 
certainty the  bank  maintains  route  books  giving  a  list  of  the 
correspondents  of  the  bank  and  the  collection  arrangements  in 
effect  with  each.  By  the  aid  of  this  information  the  bank  em- 
ployees rtre  able  to  send  the  items  by  the  route  which  will  insure 
the  quickest  and  cheapest  collection. 

The  work  of  routing  requires  the  most  expert  knowledge  and 
great  alertness.  Not  only  is  the  transit  department  responsible 
for  making  collections  in  the  quickest  and  cheapest  manner,  but 
it  must  also  see  that  the  collection  business  of  the  bank  is  dis- 
tributed among  its  out-of-town  correspondents  in  such  a  way 
as  to  be  mutually  profitable.  In  fine,  it  may  be  said  to  be  the 
duty  of  the  transit  department  to  see  that  the  department  is 
operated  in  such  a  manner  as  to  pay  its  way  and  to  engender 
such  cordial  relations  with  other  banks  as  to  increase  the  bank's 
business. 

Routing  the  Transit  Items. — In  the  attempt  to  efifect  collec- 
tions at  minimum  cost  it  often  becomes  necessary  to  send  items 
by  an  indirect  rather  than  by  a  direct  route.  For  example,  a 
bank  may  send  an  item  to  a  correspondent,  which  in  turn  has  an 
account  with  a  bank  in  another  place,  and  so  on  through  half  a 


VIII]  TRANSITS  139 

dozen  banks  until  one  is  reached  which  has  a  reciprocal  account 
with  the  institution  upon  which  the  item  is  drawn.  Each  of  these 
banks  may  have  an  agreement  with  the  other  to  collect  items  at 
par  or  at  a  small  fixed  rate  of  exchange.  In  such  case  it  is  often 
cheaper  for  the  receiving  bank  to  send  the  item  by  this  route 
rather  than  to  send  it  directly  to  the  paying  bank  with  whom  it 
has  no  reciprocal  agreement  whatever. 

The  past  history  of  banking  affords  some  very  striking  illus- 
trations of  the  attempt  to  avoid  heavy  exchange  charges  by  a 
roundabout  method  of  collection.  Checks  have  come  back  to  the 
bank  upon  which  they  were  drawn  with  indorsements,  indicating 
the  hands  through  which  they  have  passed,  so  numerous  that 
they  covered  not  only  the  backs  of  the  checks  but  have  even  been 
stamped  on  the  face.  An  illustration  which  is  frequently  quoted 
is  as  follows :  A  check  drawn  on  a  bank  in  Sag  Harbor,  New  York, 
deposited  in  Hoboken,  New  Jersey,  was  sent  from  Hoboken  to 
New  York,  from  New  York  to  Boston,  Boston  to  Tonawanda, 
Tonawanda  to  Albany,  Albany  to  Port  Jefferson,  Port  Jefferson 
to  Far  Rockaway,  Far  Rockaway  to  New  York  again,  New  York 
to  Riverhead,  Riverhead  to  Brooklyn,  and  Brooklyn  to  Sag 
Harbor.  It  thus  went  through  nine  different  banks  and  over 
1,500  miles  more  than  it  would  have  covered  had  it  gone  direct. 
The  necessity  for  this  indirect  collection  has  been  largely  elimi- 
nated by  the  establishment  of  the  federal  reserve  method  of  han- 
dling transit  items. 

The  Universal  Collection  System. — When  the  items  have  been 
sorted  according  to  the  banks  to  which  they  are  to  be  sent,  they 
are  indorsed  in  the  usual  form  by  making  them  payable  to  any 
bank  or  banker  and  guaranteeing  previous  indorsements.  They 
are  then  enclosed  with  a  form  letter  which  gives  the  name  of  the 
sending  bank  and  of  the  bank  upon  which  drawn,  with  the  amount 
and  instructions  as  to  whether  the  item  is  to  be  protested  if  un- 
paid.   The  work  of  recording  these  items  has  been  very  much 


I40  BANKING  PRACTICE  [VIII 

reduced  by  the  adoption  of  what  is  known  as  the  ''universal 
collection  system." 

This  system  was  put  into  effect  by  the  American  Bankers' 
Association  in  191 1.  According  to  the  system  every  bank  in  the 
United  States  has  a  distinctive  number  which  is  given  in  a  direc- 
tory or  key  published  by  the  association.  It  is  no  longer  necessary 
now  to  write  out  the  name  of  any  bank  since  its  identity  is  suffi- 
ciently indicated  by  its  number.  Each  bank's  number  is  usually 
printed  on  its  checks.  Thus  checks  drawn  on  the  National  City 
Bank  bear  on  their  face  the  numbers  1-8;  checks  drawn  on  the 
First  National  Bank  of  Iowa  City  bear  on  their  face  the  numbers 
72-114.  The  numbers  are  allotted  in  the  following  manner: 
The  cities  which  are  most  important  as  clearing  centers  are  each 
given  a  number  ranging  from  i  to  49.  The  states  of  the  Union 
are  each  given  a  number  beginning  at  50.  If  the  bank  in  question 
is  located  in  a  city  with  a  distinctive  number,  it  takes  that  num- 
ber followed  by  its  own  number  in  the  clearing  house  of  such  city. 
Thus  New  York  is  number  i,  and  the  National  City  Bank  is 
number  8  in  the  clearing  house.  If  the  bank  is  located  in  a  town 
or  city  which  does  not  have  a  distinctive  number,  it  takes  first 
the  number  of  the  state  and  follows  this  with  a  special  number 
which  has  been  assigned  to  it  within  that  state.  Thus  the  First 
National  Bank  of  Iowa  City  takes  the  number  of  the  state,  72, 
and  follows  it  with  its  special  number  within  the  state,  114. 

Settlement  for  Transit  Items  Collected. — When  the  transit 
items  have  been  received  and  paid,  settlement  must  be  made  with 
the  sending  bank.  This  settlement  takes  any  one  of  three  main 
forms — omitting  from  consideration  the  very  rare  cases  in  which 
actual  currency  might  be  sent  in  settlement :  First,  the  settlement 
may  be  made  by  the  remittance  of  local  funds.  This  means,  for 
example,  that  if  the  transit  items  had  been  sent  out  by  a  Boston 
bank,  remittance  w^ould  be  made  by  its  correspondents  in  drafts 
on  some  Boston  bank.    It  should  be  noted  here,  however,  that 


villi  TRANSITS  141 

New  York  funds,  or  drafts  on  New  York  banks,  are  practically 
always  as  acceptable  as  any  local  funds  because  of  the  fact  that 
New  Y^ork  is  by  all  odds  the  most  important  banking  exchange 
center  in  the  country.  Secondly,  banks  which  are  members  of  the 
federal  reserve  system  are  always  glad  to  accept  credit  with  the 
federal  reserve  bank  in  settlement  of  transit  items.  Thirdly, 
settlement  is  often  made  by  means  of  a  bookkeeping  entry,  ac- 
cording to  which  the  sending  bank  charges  the  account  of  its 
collecting  agent  for  the  amount  of  the  items  sent,  thereby  reduc- 
ing the  deposit  liability  of  the  correspondent. 

Transit  Department  as  Aid  in  Analyzing  Accounts. — In  addi- 
tion to  the  characteristic  functions  of  the  transit  department, 
certain  other  duties  are  performed  which  are  incidental  to  the 
main  functions.  One  of  these  is  the  preparation  of  certain  reports. 
One  report  contains  a  list  of  charges  which  have  been  made 
against  the  accounts  of  correspondent  banks.  This  report  is  sent 
to  the  general  ledger  bookkeepers  so  that  they  may  check  up  the 
work  of  the  bookkeepers  having  charge  of  the  accounts  involved. 
Another  report  is  made  to  the  cashier  of  the  bank  showing  the 
changes  which  have  occurred  in  the  bank's  reserve  account 
through  the  operations  of  the  transit  department.  A  third  report 
is  prepared  and  sent  to  the  local  federal  reserve  bank  showing  all 
the  "direct  sendings"  to  the  federal  reserve  banks  and  branches 
throughout  the  country.  This  report  contains  one  sheet  for  each 
class  of  items  (those  sent  to  one-day,  two-day,  four-day,  and 
eight-day  points),  and  a  recapitulation  sheet  showing  the  total 
of  these  direct  sendings  according  to  the  days  of  availability  of 
the  credits.  A  fourth  report,  which  is  furnished  to  the  officers 
or  to  the  auditors,  contains  data  of  importance  for  analyzing 
depositors'  accounts.  The  purpose  of  such  analysis  is  to  deter- 
mine whether  and  to  what  extent  a  given  account  is  profitable 
for  the  bank. 

In  order  to  analyze  the  account  intelligently,  it  is  essential 


142  BANKING  PRACTICE  [VIII 

that  the  bank  know  the  amount  and  cost  of  the  collection  service 
which  it  is  furnishing  gratuitously  to  the  depositor.  In  the  case 
of  some  transit  items  the  cost  of  collection  is  assessed  against  the 
depositor,  but  in  the  case  of  other  items  the  cost  of  collection  is 
borne  by  the  bank  if  the  account  is  one  which  the  bank  is  desirous 
of  retaining.  When  this  free  service  is  rendered,  such  exchange 
charges  of  course  represent  an  expense  in  carrying  the  account  and 
therefore  must  be  considered  in  determining  whether  or  not  such 
an  account  is  profitable.  Furthermore,  interest  is  paid  on  some 
accounts,  but,  as  was  pointed  out  before,  the  bank  itself  does  not 
really  obtain  the  use  of  the  funds  represented  by  the  deposit  of 
transit  items  for  as  long  sometimes  as  eight  days.  Obviously,  if 
the  bank  pays  interest  to  a  depositor  on  funds  which  it  does  not 
obtain  for  several  days,  it  is  losing  that  amount  of  interest.  This 
loss  is  also  properly  chargeable  to  the  expense  of  handling  such 
account  and  must  be  considered  by  the  cost  clerk  when  analyzing 
the  account. 

Assessment  of  Exchange  Charges.^ — Another  duty  incidental 
to  the  transit  work  is  the  assessment  and  recording  of  exchange 
charges.  These  charges  vary  somewhat  in  different  sections  of 
the  country,  but  in  general  they  follow  pretty  closely  the  schedule 
prevailing  in  New  York.  The  rules  of  the  New  York  Clearing 
House  Association  determine  the  procedure  of  the  member  banks 
in  making  charges  for  exchange.  Items  are  divided  into  two 
classes:  (i)  charge  items,  for  which  member  banks  must  assess 
exchange  charges  or  suffer  a  fine  or  disciplinary  penalty,  and  (2) 
discretionary  items,  for  which  the  bank  may  or  may  not  charge 
at  its  own  discretion.  A  minimum  charge  of  10  cents  is  fixed 
for  each  item  not  classed  as  discretionary,  and  the  charges 
range  from  discretionary  to  %  per  cent.  They  are  apparently 
somewhat  arbitrary  in  nature,  but  in  general  the  basis  for  the 
charge  is  the  time  required  for  collecting  the  item.  In  the  case  of 
discretionary  items  the  banks  usually  do  not  charge  exchange 


VIII 


TRANSITS 


143 


This  concession  is  explained  by  the 
pressure  of  competition. 

Collection  of  Exchange  Charges. 

—It  is  the  duty  of  the  transit  (.loi)art- 
ment  to  assess  exchange  charges  on 
the  basis  of  the  rules  imposed.  Ac- 
cordingly all  items  receive  the  atten- 
tion of  exchange  clerks  in  the  transit 
department  before  they  are  sorted 
into  their  positions  on  the  racks.  All 
items  upon  which  a  charge  is  to 
be  made  are  entered  upon  exchange 
sheets,  of  which  there  is  one  for  each 
depositor  of  the  bank.  These  sheets 
show  the  date,  place  where  payable, 
the  face  of  the  item,  and  the  amount 
of  exchange  assessed.  At  the  end  of 
each  month  these  columns  are  totaled 
and  a  bill  covering  the  charges  (Form 
12)  is  presented  to  the  customer. 
The  payments  are  made  according 
to  the  desires  of  the  customers,  some 
of  them  preferring  to  pay  exchange 
at  the  time  of  making  the  deposit. 
In  such  case  the  receiving  teller  who 
accepts  the  amount  of  the  exchange 
reports  the  fact  of  collection  to  the 
transit  dejsartment.  Others  prefer 
to  pay  their  exchange  in  cash  at  the 
end  of  the  month.  Such  payments 
are  usually  received  by  the  note 
teller.  The  most  numerous  class  of 
customers  have  their  exchange  bills 


THE  NATIONAL  CITY'BANK 

OF  NEW  YORK 
Exchange  Account  With 

.-.192/ 


'^^I^^ 


Dr.  Acct. 


% 


/J 


/o 

TO 

<7V 
A/ 


/r 
/o 


(TV 


^d 


"^^t/^- 


/-^ 


3/ 


Form    12.     Bill   for   Exchange 
Charges.    (Size  11  x  3^-) 


144  BANKING  PRACTICE  [VIII 

charged  to  their  accounts  by  the  bookkeepers.  The  bills  drawn 
up  by  the  transit  department  for  exchange  in  these  cases  are  sent 
to  the  bookkeepers,  where  charges  are  made  against  the  customers' 
accounts  just  as  for  checks  or  similar  charges. 

The  Theory  of  Exchange  Charges. — Much  confusion  of 
thought  prevails  on  this  subject  of  exchange  charges.  Many 
people  do  not  understand  how  a  bank  can  justly  make  a  charge 
for  cashing  their  checks  when  they  have  sufficient  funds  in  the 
bank  to  care  for  them.  The  feeling  is  that  the  bank  has  agreed  to 
cash  their  checks  in  full  on  demand  and  that  therefore  any  charge 
for  exchange  is  a  petty  form  of  graft  without  justification. 

This  view  is  not  correct.  The  ideal  system  would  be  to  have 
all  checks  circulate  at  par,  and  it  is  true  that  if  a  depositor  pre- 
sents his  check  in  person  to  his  bank  the  bank  is  compelled  to 
give  him  the  amount  called  for  without  deduction.  But  it  must 
be  remembered  that  when  a  merchant  in  St.  Louis  sends  his  check 
on  a  local  bank  to  a  creditor  in  Pittsburgh  in  settlement  of  his 
account,  the  Pittsburgh  man  does  not  thereby  receive  the  money 
unless  some  arrangement  is  made  for  transferring  money  or  its 
equivalent  from  St.  Louis  to  Pittsburgh.  He  deposits  the  check 
in  his  Pittsburgh  bank  and  receives  from  that  bank  the  right  to 
draw  the  cash  at  will.  The  Pittsburgh  bank  recompenses  itself 
in  the  manner  described  earlier  in  this  chapter,  and  ultimately 
the  expense  and  trouble  of  transferring  actual  cash  from  one  place 
to  another  must  be  paid  by  somebody.  In  the  case  just  cited  the 
two  banks  perform  a  very  real  service — that  of  transferring  funds 
from  one  city  to  the  other.  If  the  drawer  undertook  to  send  the 
money  himself  he  would  incur  all  the  expenses  and  the  delays 
of  transportation.  Hence  it  is  theoretically  justifiable  for  banks 
to  make  what  may  be  called  a  service  charge  for  this  work. 

"  Exchange  "  a  Service  Charge. — To  revert  to  the  illustration 
used,  which  of  the  banks  actually  makes  the  charge?    Some  con- 


VIII 1  TRANSITS  145 

fusion  arises  as  to  the  origin  of  this  charge  because  it  is  assessed 
against  the  recipient  of  the  check  when  he  deposits  it  in  his  Pitts- 
burgh bank;  but  the  reason  for  the  assessment  of  the  charge  in 
Pittsburgh  is  that  that  bank  will  be  compelled  to  pay  when  an 
attempt  is  made  to  get  its  money  from  the  bank  in  St.  Louis. 
The  situation  is  this:  the  bank  upon  which  the  check  is  drawn 
makes  a  charge  for  paying  the  item,  which  charge  is  borne  by  the 
person  who  deposits  the  check.  What  service  does  the  St.  Louis 
bank  perform  to  justify  this  charge?  It  receives  money  from  its 
depositor  in  St.  Louis  and  pays  money  for  him  to  another  indivi- 
dual in  Pittsburgh.  It  does  this  ultimately  by  drawing  a  draft 
on  an  account  which  it  has  built  up  in  some  other  center. 

This  account  has  been  built  up  in  one  of  two  ways:  either  by 
sending  actual  cash  from  St.  Louis  to  the  point  of  deposit,  say 
New  York,  or  by  sending  for  deposit  to  such  account  checks, 
drafts,  and  other  items  received  in  exchange  for  money  which  was 
paid  out  in  St.  Louis.  So  long  as  the  drains  upon  its  account  are 
not  particularly  heavy,  the  bank  may  build  up  a  balance  through 
the  deposit  of  transit  items  at  other  points  at  relatively  small 
expense.  But  if  the  demands  upon  its  balance  are  heavy,  it  may 
be  forced  to  withdraw  currency  from  its  vaults  in  St.  Louis  and 
pay  the  shipping  and  insurance  charges  in  order  to  replenish  the 
balance.  The  St.  Louis  bank  is  thus  put  to  expense  to  obtain 
the  means  for  making  it  possible  to  pay  the  Pittsburgh  bank  for 
the  check  of  its  local  customer. 

It  is  not  difficult,  therefore,  to  justify  a  charge  which  would 
compensate  the  St.  Louis  bank  for  such  expense.  Besides  the 
cost  of  the  shipments  of  money,  every  time  a  bank  sends  transit 
items  to  build  up  its  balance  it  incurs  expense  of  postage,  station- 
ery, and  clerk  hire;  and  each  time  it  sends  its  draft  on  some 
central  point  in  settlement  of  a  debit  balance  against  itself  which 
has  arisen  because  one  of  its  depositors  has  sent  his  check  to 
another  point,  it  also  incurs  expense  for  postage,  stationery,  and 
clerk  hire.     Furthermore,  it  receives  from  the  customer  items 


146  BANKING  PRACTICE  [VIII 

which  it  will  not  be  able  to  collect  for  some  days,  and  may  give 
to  him  the  right  to  draw  on  those  items  in  the  same  manner  as 
though  cash  had  been  deposited.  If  it  does  this  the  bank  suffers 
a  loss  of  interest  on  the  transaction.  The  expenses  enumerated 
justify  any  minimum  charge  which  may  be  made  by  the  bank. 

"  Exchange  "  the  Price  for  a  Commodity. — But  there  is 
another  reason  for  making  a  charge  for  exchange.  It  is  usually 
conceded  that  the  seller  of  a  commodity  is  justified  in  charging 
whatever  price,  within  reason,  his  customers  are  willing  to  pay. 
The  balance  which  a  bank  accumulates  in  a  central  money  market 
such  as  New  York,  represents  a  valuable  commodity.  New  York 
funds  are  frequently  in  demand.  It  is  not  possible  for  each  mer- 
chant or  manufacturer  in  the  country  to  maintain  a  bank  account 
in  New  York,  and  yet  there  are  frequent  occasions  when  such  an 
account  would  be  a  great  convenience  for  him.  While  it  is  gen- 
erally impossible  for  the  individual  to  maintain  such  an  account, 
most  banks,  as  has  been  said  heretofore,  do  maintain  such  an  ac- 
count or  ha\  e  made  arrangements  whereby  they  can  obtain  New 
York  funds.  The  bank,  then,  possesses  a  valuable  commodity, 
funds  in  New  York,  which  a  local  merchant  wishes  to  buy.  He 
may  get  these  funds  either  directly  by  giving  his  check  or  cash  to 
the  local  bank  and  receiving  in  return  the  bank's  draft  upon  its 
New  York  correspondent;  or  he  may  get  them  indirectly  by  send- 
ing his  own  check  to  his  creditor,  that  creditor  then  obtaining 
New  York  funds  through  some  New  York  bank.  By  this  latter 
process  the  merchant  obtains  the  funds  ultimately  through  a  re- 
duction of  the  New  York  balance  maintained  by  his  local 
bank. 

At  various  times  the  demand  for  this  commodity,  money  in 
New  York  or  some  other  central  point,  is  very  great.  If  the 
supply  of  New  York  funds  built  up  by  the  local  bank  is  small  and 
if  the  demand  on  the  part  of  local  customers  is  great,  the  bank  is 
justified,  regardless  of  expense  incurred  in  obtaining  the  funds,  in 


VIII]  TRANSITS  147 

charging  the  price  for  this  commodity  which  is  established  by  the 
factors  of  supply  and  demand  in  the  local  market. 

Exchange  Charges  and  Cost  of  Business. — Undoubtedly  some 
banks  have  taken  undue  advantage  of  the  opportunity  to  assess 
exchange  charges  and  there  have  been  some  notorious  abuses  of 
the  power.  Banks  which  have  been  established  in  out-of-the- 
way  places  have  sometimes  obtained  a  considerable  portion  of 
their  income  from  exorbitant  charges  for  paying  checks  drawn 
upon  themselves.  It  seems  very  easy  to  collect  toll  in  this  manner 
because  the  charge  is  levied  against  a  stranger,  one  with  whom  the 
bank  never  comes  into  personal  contact.  The  drawer  of  the  check 
knows  nothing  of  the  charge  unless  his  creditor  complains  that  the 
bank  is  discounting  his  checks;  and  often  the  distant  creditor 
acquiesces,  although  with  reluctance,  because  he  feels  that  it  is 
better  to  get  his  money  immediately  rather  than  to  delay  settle- 
ment by  complaining  about  the  charge.  He  has,  however,  two 
lines  of  defense,  either  one  of  which  may  be  used.  One  is  to  in- 
crease prices  to  his  customer  sufficiently  to  cover  the  loss  due  to 
exchange  charges,  and  the  other  is  to  refuse  to  accept  local  checks 
in  settlement  of  accounts,  demanding  instead  remittance  in  the 
form  of  New  York  draft  or  postal  or  express  money  order,  thus 
putting  the  cost  of  transferring  funds  directly  on  the  remitter. 

Federal  Reserve  System  as  Clearing  House. — While  modest 
charges  for  the  service  of  transmitting  funds  may  be  justified,  it 
is  still  possible  to  maintain  that  even  these  charges  might  be 
greatly  reduced  if  the  exchange  machinery  of  the  banks  were 
sufficiently  well  integrated.  If,  for  example,  it  were  possible  to 
conceive  of  one  gigantic  bank  for  the  whole  nation  on  whose  books 
every  individual  and  every  corporation  has  an  account,  all  trans- 
fers of  funds  from  one  person  to  another,  no  matter  where  they 
might  be  located,  could  be  effected  by  means  of  book  entries  for 
which  the  expense  would  be  practically  negligible.    While  such 


148  BANKING  PRACTICE  I VIII 

an  institution  would  be  impracticable  in  operation,  in  effect  an 
approach  to  it  has  been  accomplished  in  the  establishment  of  the 
federal  reserve  system. 

As  has  been  pointed  out,  each  of  the  twelve  reserve  banks  acts 
as  a  clearing  house  for  the  majority  of  the  transactions  within  its 
district;  and  through  the  agency  of  the  Federal  Reserve  Board  at 
Washington  and  the  clearing  house  there  established  these  twelve 
banks  are  brought  into  close  touch.  It  is  not  surprising,  then,  and 
indeed  it  was  one  of  the  purposes  of  the  Federal  Reserve  Act,  that 
there  is  now  a  system  of  handling  transit  items  which  greatly 
reduces  exchange  charges.  For  a  large  number  of  banks  through- 
out the  country  items  are  now  collected  through  the  federal 
reserve  system  without  charge.  This  is,  of  course,  a  great  advan- 
tage both  to  the  drawer  of  the  check  and  to  the  drawee.  The 
elimination  of  heavy  exchange  charges  removes  one  of  the  chief 
impediments  in  the  way  of  the  most  effective  operation  of  the 
mechanism  of  exchange,  and  greatly  simplifies  the  work  and  re- 
duces the  worries  of  the  transit  department. 


CHAPTER  IX 

COLLECTIONS 

Collections  versus  Transits. — The  handling  of  collection  items 
is  an  operation  that  may  properly  be  considered  as  part  of  the 
exchange  function  inasmuch  as  most  of  the  collection  items  have 
for  their  purpose  the  transferring  of  funds  from  one  place  to 
another  and  from  one  person  to  another  in  very  much  the  same 
manner  as  transit  items  are  transferred.  But  certain  peculiari- 
ties characteristic  of  the  treatment  and  disposition  of  collection 
items  make  it  desirable  to  consider  this  branch  of  the  subject 
under  a  separate  head. 

As  explained  in  the  preceding  chapter,  there  is  a  paucity  of 
terms  to  designate  certain  banking  activities,  and  it  becomes 
necessary  here  to  impose  a  double  burden  upon  the  word  ''col- 
lecting." For  example,  there  is  the  collecting  of  cash  items  and 
also  the  collecting  of  "collection"  items.  In  discussing  transit 
operations  collection  items  are  defined  as  negotiable  instruments 
which  are  not  regarded  as  the  immediate  equivalent  of  cash. 
They  are  distinguished  from  cash  items  by  the  fact  that  they  are 
not  settled  for  by  the  receiving  bank  until  they  are  paid,  whereas 
cash  items  are  paid  or  are  credited  to  the  account  of  the  customer 
when  presented,  although  the  bank  itself  may  not  receive  the 
funds  therefrom  for  some  days.  The  bfenk  acts  merely  as  agent 
for  the  depositor  of  collection  items  and  assumes  no  responsibility 
for  their  payment. 

Duties  of  a  Collection  Department. — In  its  capacity  as  agent, 
however,  the  bank,  through  its  collection  department,  performs 
certain  other  functions  not  identified  strictly  with  collection 
activities.    It  may  seek  to  obtain  settlement  of  past-due  accounts 

149 


I50  BANKING  PRACTICE  [IX 

for  its  customers;  it  may  act  as  representative  for  its  customers  in 
certain  transactions;  or  it  may  even  be  called  upon  to  obtain  pay- 
ment for  cash  items.  Thus,  if  a  bank  in  a  city  receives  a  very 
large  cash  item  drawn  on  another  local  bank,  it  frequently  turns 
over  the  item  to  the  collection  department  to  be  presented  to  the 
drawee  bank  immediately  for  payment.  The  purpose  of  such 
procedure  is  to  obtain  the  funds  more  quickly  than  if  the  item 
were  sent  through  the  regular  clearing  process,  with  the  idea  of 
avoiding  the  loss  of  interest  which  would  be  occasioned  by  the 
delay. 

Characteristics  of  Collection  Items. — The  kinds  of  items  which 
are  usually  received  for  collection  are  checks,  notes,  drafts, 
coupons,  and  matured  bonds.  Checks  are  received  for  collection 
when  there  are  conditions  connected  with  their  history,  form,  or 
appearance  which  make  their  payment  uncertain.  For  example, 
postdated  or  stale  checks  are  usually  received  on  a  collection  basis, 
since  the  receiving  bank  is  uncertain  whether  the  dating  may 
delay  or  prevent  payment  by  the  drawee  bank.  Similarly  checks 
signed  by  deceased  persons  are  accepted  only  for  collection  inas- 
much as  the  drawee  bank  cannot  pay  them  except  after  certain 
legal  processes  have  been  complied  with.  Checks  which  require 
special  services,  such  as  wiring  advice  of  payment,  are  handled 
also  on  a  collection  basis.  Finally,  a  large  number  of  the  checks 
received  for  collection  consist  of  items  which  have  previously 
been  presented  for  payment  and  have  been  returned  dishonored. 

It  has  been  said  that  there  are  various  reasons  for  the  refusal 
to  pay  checks,  but  the  fact  that  payment  has  once  been  refused 
makes  the  bank  unwiUing  or  reluctant  to  accept  such  items  as 
cash,  and  therefore  it  agrees  to  act  merely  in  the  capacity  of  agent 
in  seeking  to  make  collection.  Sometimes  also  these  dishonored 
items  have  been  protested  and  the  protest  fees  are  added  to  the 
amount  of  the  check.  This  necessitates  the  handling  of  the  items 
by  the  collection  department  inasmuch  as  it  is  necessary  to  com- 


IX]  COLLECTIONS  151 

municate  with  the  maker  of  the  check  before  paying  the  addi- 
tional fees.  Checks  previously  returned  unpaid  and  accepted  on 
a  collection  basis  are  presented  from  time  to  time  according  to  the 
instructions  of  the  payee  in  the  hope  that  they  will  be  provided  for. 

Collection  of  Notes.- — Notes  which  have  been  discounted  are 
usually  accepted  only  for  collection  because  they  are  merely 
promises  to  pay  at  some  time  in  the  future  and  banks  are  there- 
fore unwilling  to  credit  customers  with  the  proceeds  or  to  pay 
cash  until  they  know  whether  the  promise  of  payment  by  the 
signer  is  going  to  be  fulfilled.  Usually  notes  are  held  in  the  collec- 
tion department  until  near  the  time  for  their  payment,  when  they 
are  forwarded  to  a  correspondent  at  the  place  of  payment  with 
the  request  that  they  be  presented  to  the  maker  for  liquidation. 
A  great  many  collection  items  of  this  sort  arise  in  connection  with 
the  purchase  of  commodities  on  the  instalment  basis.  Cash 
registers,  mechanical  pianos,  agricultural  machinery,  and  a  large 
variety  of  other  goods  are  frequently  sold  on  an  instalment  plan, 
under  which  the  buyer  gives  his  notes  maturing  over  a  series  of 
months  and  made  payable  on  his  own  bank.  The  collection  de- 
partment of  the  seller's  bank  forwards  such  items  to  the  buyer's 
bank  with  the  request  that  it  act  as  collecting  agent  to  obtain 
payment  of  the  notes. 

Collection  of  Drafts. — A  third  form  of  instrument  handled  by 
the  collection  department  of  a  bank  is  the  draft.  A  draft  is  an 
order  signed  by  one  person  directing  a  second  person  to  pay  to 
himself,  his  agent,  or  other  third  person  a  given  sum  of  money. 
There  are  sight  drafts,  calling  for  payment  upon  presentation  of 
the  draft,  and  there  are  time  drafts,  payable  a  specified  number  of 
days  after  presentation  has  been  made.  Such  items  can  obviously 
not  be  included  in  the  cash  collections  of  the  bank  because  the 
bank  has  no  way  of  knowing  whether  payment  will  be  made  until 
the  draft  has  actually  been  presented  to  the  party  upon  whom  it  is 


152  BANKING  PRACTICE  [IX 

drawn.  In  the  case  of  the  time  draft  there  is  the  certainty  that  it 
will  not  be  paid  until  the  end  of  at  least  a  specified  period.  For 
these  reasons  such  items  are  accepted  not  as  cash  but  for  collec- 
tion, and  the  receiving  bank  does  not  advance  any  funds  against 
them  until  word  has  been  received  of  their  payment. 

Another  reason  which  sometimes  arises  for  handling  drafts  on 
a  collection  basis  occurs  when  the  drawer  does  not  wish  to  pay  the 
exchange  charges  necessary  to  have  the  item  collected.  He  may 
in  such  case  draw  the  draft  for  the  amount  due  him  plus  exchange. 
The  total  amount  of  the  draft  is  uncertain  and  the  transaction 
could  not,  of  course,  be  settled  for  and  handled  as  a  cash  item 
until  the  amount  is  definitely  known. 

Collection  of  Coupons  and  Matured  Bonds. — Most  of  the 
large  borrowing  corporations  in  this  country  which  have  issued 
coupon  bonds  have  established  paying  agencies  in  one  or  two 
large  centers,  particularly  New  York.  The  owners  of  the  bonds 
are  scattered  throughout  the  country.  These  owners  present  their 
coupons  as  they  mature  and  finally  present  the  bonds  themselves 
for  payment  at  maturity  to  their  local  banks.  Since  the  bonds 
and  in  a  certain  sense  the  coupons  are  in  essence  the  same  as 
promissory  notes,  and  since  also  the  law  requires  owners  to  sub- 
mit properly  executed  ownership  certificates,  there  are  apt  to  be 
uncertainties  about  the  payment  of  these  instruments.  The 
banks,  therefore,  usually  accept  them  only  for  collection.  They 
are  sent  to  New  York,  or  wherever  the  paying  ofhce  of  the  cor- 
poration may  be,  and  the  New  York  bank,  acting  as  the  collecting 
agent  for  its  out-of-town  correspondents,  presents  the  bonds  and 
coupons  to  the  paying  office  of  the  corporation.  When  payment 
is  received,  the  funds  are  remitted  to  the  correspondent  and  by  it 
delivered  to  the  local  customer. 

Reasons  for  Handling  Collections. — It  may  seem  surprising 
at  first  thought  that  the  banks  engage  in  these  collecting  activi- 


IX]  COLLECTIONS  153 

ties,  inasmuch  as  this  does  not  seem  to  be  essentially  a  part  of  a 
bank's  business.  In  addition  to  the  fact  mentioned  in  the  begin- 
ning of  this  chapter  that  the  collection  work  supplements  and 
closely  parallels  the  collection  of  transmit  items,  there  are  three 
main  reasons  why  banks  undertake  this  work.  The  first  of  these 
is  service.  A  bank  naturally  desires  to  perform  any  service  that 
it  can  for  its  customers  in  order  to  obtain  their  good-will.  Since 
it  is  equipped  to  effect  transmission  of  negotiable  instruments  and 
money  for  itself,  the  practice  has  developed  of  relying  upon  the 
bank  to  transmit  and  account  for  collection  items  for  depositors. 
A  second  reason  is  the  desire  to  obtain  new  business.  A  high- 
grade  collection  service  makes  a  good  talking  point  to  attract  new 
customers,  and  moreover  the  competition  of  other  banks  which 
furnish  this  service  compels  the  assumption  of  the  task.  The 
third  reason  for  undertaking  the  work  is  profit.  While  in  the  case 
of  its  own  depositors  a  bank  frequently  performs  the  ordinary 
collection  work  without  making  any  charge,  there  are  some  forms 
of  this  agency  service  for  which  a  fee  is  collected  even  from  de- 
positors. There  are  other  persons  also  who  desire  to  avail  them- 
selves of  a  bank's  collection  services  and  who  are  charged  a  fee 
commensurate  with  the  service  performed.  Hence  the  collection 
department  of  a  large  bank  produces  in  the  course  of  a  year  a  very 
considerable  revenue. 

Collection  Department  Personnel. — The  personnel  for  con- 
ducting the  collection  operations  consists,  in  the  case  of  banks  of 
moderate  size,  of  two  or  three  employees  who  are  spoken  of  as 
collection  clerks.  In  banks  which  transact  a  relatively  small 
amount  of  collection  business  the  work  may  be  done  by  the  gen- 
eral ledger  bookkeeper,  or  it  may  be  divided  between  the  general 
ledger  bookkeeper  and  the  receiving  teller  or  some  other  em- 
ployee. In  the  metropolitan  banks  the  work  may  be  so  heavy  as 
to  require  a  large  staff  of  employees  and  several  complete  depart- 
mental organizations. 


154  BANKING  PRACTICE  [IX 

For  example,  the  work  is  sometimes  divided  between  a  city 
collection  department,  which  is  under  the  direction  of  the  fifth 
teller,  and  the  third  or  note  teller's  department.  The  work  of  the 
city  collection  department  includes  the  collection  of  certain  large 
cash  items  which  the  bank  wishes  to  obtain  with  the  least  possible 
delay,  and  the  collection  of  items  drawn  on  persons  in  the  city 
which  have  been  received  on  a  collection  basis.  Such  a  depart- 
ment also  secures  the  acceptance  of  time  drafts;  seeks  to  collect 
all  cash  items  which  fail  of  collection  through  the  clearing  house 
or  the  transit  department,  or  which  the  bank  itself  refuses  to  pay 
when  drawn  by  its  own  customers;  and  finally  the  collection  de- 
partment is  responsible  for  the  rehandling  and  rerouting  of  certain 
items  which  have  been  sent  to  wrong  departments  or  to  wrong 
banks. 

In  brief,  it  may  be  said  that  the  function  of  a  city  collection 
department  is  to  obtain  funds  for  all  items  payable  in  the  city 
which  cannot  be  collected  through  the  clearing  house  or  the 
federal  reserve  bank.  However,  as  the  number  of  transactions 
increase  further  subdivision  is  necessary,  and  as  a  result  certain 
groups  of  items,  although  payable  in  the  city,  are  nevertheless 
turned  over  to  special  employees  in  the  collection  department  for 
presentation.  Most  of  this  work  is  handled  in  the  note  teller's 
department  or  the  coupon  collection  department.  In  addition 
to  these  divisions  in  the  large  banks,  the  work  of  caring  for  collec- 
tion items  payable  outside  the  city  is  performed  by  a  separate 
group  or  department  called  the  country  collection  department. 

Messengers'  Department. — A  further  unit  of  organization 
sometimes  found  attached  to  the  collection  department  is  the 
messengers'  department.  The  function  of  such  a  department  is 
to  have  charge  of  the  presentation  and  collection  of  items  which 
are  payable  in  the  city.  The  messengers'  department  might  thus 
be  said  to  be  the  arm  of  the  city  collection  department.  More 
specifically,  the  messengers  not  only  perform  the  work  of  pre- 


IX  J  COLLECTIONS  155 

senting  collection  items  and  obtaining  payment  for  them,  but 
carry  money,  securities,  documents,  and  notices  between  banks 
and  such  institutions  as  the  sub- treasury,  the  clearing  house,  the 
federal  reserve  bank,  and  brokerage  houses. 

Since  the  demands  on  the  time  of  the  messengers  vary  con- 
siderably at  different  hours  in  the  day,  the  members  of  the  depart- 
ment are  shifted  about  from  task  to  task  as  needed.  They  may 
help  in  sorting  the  mail  or  they  may  serve  as  special  messengers  in 
connection  with  certain  departments.  In  making  collections  each 
messenger  travels  a  certain  route,  and  where  the  work  is  large 
enough  to  make  specialization  possible  each  messenger  handles  a 
specific  class  of  items,  thus  becoming  familiar  with  the  procedure 
of  each  class.  In  case  of  inability  to  locate  the  proper  person  for 
the  presentation  of  a  collection  item  at  his  office,  the  messenger 
leaves  a  formal  notice  as  evidence  that  presentment  of  the  item 
has  been  made. 

Receiving  Items  for  Collection. — The  routine  work  of  the 
collection  department  consists  in  receiving  the  items  which  cus- 
tomers send  in  for  collection,  and  of  presenting  and  obtaining 
payment  for  them  at  the  proper  time.  The  items  are  received 
either  over  the  counter  or  by  mail,  in  the  same  manner  as  cash 
deposits.  Receipts  are  given  for  them,  sometimes  by  entry  in 
the  depositor's  regular  pass-book  or,  if  he  presents  collection  items 
frequently,  by  receipt  in  a  special  collection  receipt  book  which  is 
provided  by  the  bank.  Collection  items  which  come  in  by  mail 
are,  of  course,  acknowledged  in  the  usual  manner. 

Presenting  Items  for  Payment. — The  second  phase  of  the  city 
collection  work  is  that  of  obtaining  payment  of  the  items.  Notes 
and  drafts  payable  in  the  city  in  which  the  bank  is  located  are 
first  recorded  in  collection  registers.  These  are  record  books 
(Form  13)  which  show  in  detail  the  various  items  which  have 
been  received,  and  give  such  information  as  date,  depositor, 


156 


BANKING  PRACTICE 


[IX 


IX]  COLLECTIONS  1 57 

indorser,  due  date,  place  payable,  signer  or  drawee,  amount,  in- 
structions as  to  protest,  or  any  other  special  instructions.  Since 
these  items  must  be  presented  on  the  due  date,  the  employees  in 
the  collection  department  determine  the  exact  due  date  and 
indicate  this  on  the  face  of  the  item.  A  tickler  is  also  kept  which 
indicates  the  notes  and  acceptances  which  must  receive  attention 
day  by  day.  When  the  items  payable  in  the  city  are  due,  they 
are  turned  over  to  the  messenger  to  be  presented  for  payment. 
If  a  collection  item  happens  to  be  a  time  draft  it  is  presented 
immediately  upon  receipt  by  the  messenger  for  acceptance  by  the 
drawee  and  is  then  filed  away  to  be  presented  for  payment  at 
maturity. 

The  Collection  of  Coupons  and  Matured  Bonds. — Coupons 
and  matured  bonds  for  collection  come  to  the  department  from 
several  sources.  Such  instruments  may  be  received  from  other 
banks  in  large  quantities,  in  addition  to  which  the  bank  holds 
similar  items  in  safe-keeping  for  its  customers.  Many  banks 
perform  the  service  of  caring  for  securities  belonging  to.  their 
customers,  and  this  care  includes  the  collection  of  coupons  and 
of  the  matured  bonds.  Furthermore,  bonds  are  held  in  large 
amounts  as  collateral  by  the  loan  department,  and  at  the  request 
of  the  customer  the  bank  collects  the  income  from  such  securities 
for  the  borrower.  Finally,  the  bank  itself  may  hold  considerable 
blocks  of  bonds  as  investments. 

The  coupons  and  matured  bonds  from  all  these  sources  are 
collected,  if  payable  in  the  city,  by  messenger  in  the  same  manner 
as  other  payments  are  obtained.  Coupons,  other  than  those  de- 
tached from  obligations  of  the  United  States  or  any  of  its  sub- 
divisions, must  be  accompanied  by  a  certificate  of  ownership  on 
one  of  the  forms  prescribed  by  the  Treasury  Department.  The 
purpose  of  these  ownership  certificates  is  to  enable  the  paying 
agent  to  know  whether  or  not  to  deduct  the  income  tax  which 
must  be  paid  at  the  source.    One  form  of  certificate  is  used  by 


15^  BANKING  PRACTICE  [IX 

owners  claiming  exemption  from  the  tax,  another  form  by  those 
who  do  not  claim  exemption,  and  still  another  form  by  those  who 
are  collecting  the  income  from  foreign  securities. 

The  paying  corporations  usually  require  that  coupons  be  put 
up  in  envelopes  (Form  14)  of  special  form  prepared  by  themselves 
with  all  details  concerning  the  coupons  listed  on  their  face.  Some- 
times coupons  are  received  which  have  not  yet  matured.  This 
error  frequently  occurs  and  usually  the  collection  department, 


Name 


Address. 


^/'^y^yU  /f).     '^Aa^^JJT^^ 


^i^S  y^^  ^^^J^^^nit^ 


City  and  State 9lui/ ^^A 


Coll.  M»        — -^  Letter  Date_M:^XlZ^ 

Kind  of  rtm.pftnft  wA/'j:a^^j '^c^J^/^i^^t^^^muIcC 


tL Coupons  ea.  $     ^/^ $     ''Z^tT^ 


$ $- 


n..o^/y^,  Y^  /^Z/         Total     ^^^'^ 


Form  14.     Coupon  Envelope.     (Size  5^  x  3.) 

after  notifying  the  owner,  is  instructed  to  hold  such  items  for 
collection  at  the  proper  times. 

Collecting  Out-of-Town  Items. — In  the  work  of  collecting 
out-of-town  collection  items,  except  for  certain  differences  caused 
by  the  dissimilarity  in  the  nature  of  the  documents  as  already 
discussed,  the  procedure  is  very  similar  to  that  followed  in  the 
treatment  of  cash  items  by  the  transit  department.  A  record  is 
made  of  all  items  in  the  collection  register,  and  the  items  them- 
selves are  then  sent  with  remittance  letters  (Form  15)  to  the 
bank's  correspondents  in  or  near  the  places  of  payment  with  the 


IX]  COLLECTIONS  159 

request  that  they  be  transmitted  for  collection  to  the  points  of 
payment.  Items  payable  on  presentation  are  sent  out  immedi- 
ately, and  those  payable  at  some  future  date  are  usually  forwarded 
to  the  bank  that  is  to  take  the  final  steps  in  collecting  at  least  a 
week  or  ten  days  before  the  maturity  of  the  item.    Members  of 


The  National  City  Bank  of  New  York, 

For  Collection  and  Advice  of  Payment.  Do  Not  Credit  Until  Paid. 

Please  Advise  by  Number 


UNLESS  OTHERWISE  INSIHUCTED.  Oo  not  bord  colleclioni  lor  'ibe  conVRueoce  of  parlies.  Surrender  docllm<DI>  alMcbed  to 
drglti  ooly  oo  paymeol  of  lame.  PROTEST  and  RETURN  wiibout  delay  all  disbooored  pjper.  Wiro  .11  unpaid  or  uoaccepletf 
ilemi  over  tSOO. 

7/'i.  €nc/oi«  ^y  ea//t<^con  00  NOT  PROTEST  ITEMS  $10.00  OR  UNDER. 


DRAWEE  INSTRUCTIONS 


00  NOT  PftOTfSTIIEMS  BEARING  THE  SYMB0l-(N.P.t-8) 


Form  15.     Remittance  Letter  for  Collection  Items.     (Size  8  x  7.) 

the  federal  reserve  system  may  make  arrangements  to  use  the 
federal  reserve  banks  for  certain  collection  items. 

One  important  difference  between  the  handling  of  out-of-town 
collection  items  and  transit  items  deserves  to  be  emphasized 
again.  When  a  bank  sends  transit  items  to  a  correspondent,  it 
immediately  charges  the  account  of  that  correspondent  for  the 
amount  if  settlement  between  the  banks  is  to  be  made  in  this  way, 
as  is  usually  the  case,  on  the  assumption  that  the  item  will  be 
paid.    In  sending  collection  items,  however,  the  account  of  the 


l6o  BANKING  PRACTICE  [IX 

final  collecting  agent  is  not  debited  until  advice  has  been  received 
that  the  item  has  been  paid.  In  collecting  cash  items  the  bank 
assumes  that  payment  has  been  made  unless  it  has  specific  infor- 
mation to  the  contrary,  while  in  handling  collection  items  it  makes 
settlement  to  the  owner  of  the  item  only  on  the  basis  of  definite 
knowledge  that  collecting  agents  have  succeeded  in  obtaining  the 
funds. 

Unpaid  Cash  Items. — Another  phase  of  the  routine  work  of 
the  collection  department  consists  in  seeking  to  obtain  payment 
of  items  that  have  been  returned  unpaid.  Such  items  may  come 
from  two  sources:  they  may  be  returned  through  the  clearing 
house  or  through  correspondent  banks  when  they  are  drawn  upon 
other  banks;  or  they  may  be  checks  drawn  upon  the  bank  itself 
on  which  payment  has  been  refused  for  some  reason.  These  un- 
paid cash  items  are  immediately  charged  to  the  customer  to  whose 
account  they  were  originally  credited.  Usually,  unless  instructed  to 
the  contrary,  they  are  protested  and  the  account  of  the  customer 
is  sometimes  debited  for  the  fees  charged.  The  items  are  then 
transferred  to  the  collection  department,  and  if  they  are  payable 
in  the  city  the  collection  department  later  sends  out  its  messen- 
gers to  obtain  payment.  If  the  payment  is  made,  the  amount 
collected  is  credited  to  the  account  of  the  original  depositor. 

If  the  unpaid  cash  items  are  drawn  on  points  outside  of  the 
city  the  collection  department,  after  making  the  charge  to  the 
depositor's  account,  usually  forwards  such  items  on  a  collection 
basis.  Coupons  which  are  returned  unpaid  are  not  protested. 
The  irregularity  which  prevents  immediate  payment  is  usually 
something  which  can  be  adjusted  in  the  course  of  time  and  the 
collection  department  therefore  holds  such  items  and  presents 
them  later. 

Protests. — Notes,  drafts,  and  similar  collection  items  may  be 
returned  unpaid  for  various  reasons  and  are  usually  protested 


IX]  COLLECTIONS  l6l 

unless  the  bank  is  instructed  to  the  contrary,  the  reason  for  the 
protest  being  indicated.  The  usual  reasons  given  are:  "In- 
ability to  locate  the  drawee  or  signer,"  "Account  not  due," 
"Amount  incorrect,"  "Check  sent,"  "Goods  unsatisfactory," 
"Unable  to  pay,"  "Will  pay  later,"  and  similar  explanations. 

Collection  of  Documentary  Drafts. — In  handling  a  collection 
the  bank  exercises  care  to  carry  out  literally  the  instructions  of 
the  owner  of  the  item.  A  considerable  group  of  items  which  the 
collection  department  is  called  upon  to  handle  is  represented  by 
documentary  drafts,  concerning  which  the  bank  is  given  instruc- 
tions as  to  delivery  of  the  documents.  A  documentary  draft  is 
one  accompanied  by  a  bill  of  lading  and  other  shipping  papers. 
Sometimes  it  is  stipulated  by  the  drawer  that  the  documents 
are  not  to  be  delivered  except  upon  payment  of  the  full  amount 
of  the  draft;  at  other  times  instructions  may  be  to  deliver  the 
documents  upon  the  acceptance  of  the  draft.  In  all  cases  the 
collection  department  is  extremely  careful  to  record  in  its  col- 
lection register  the  instructions  received  in  connection  with  each 
item,  and  these  instructions  must  be  carried  out  exactly  un- 
less the  bank  itself  assumes  responsibihty  for  the  payment  of 
the  instrument. 

Filing  and  Recording  Collections. — In  keeping  collection  items 
which  are  not  yet  payable,  a  bank  endeavors  to  have  them  in 
such  form  that  they  will  be  at  hand  for  presentation  on  the  date 
of  maturity.  In  the  case  of  sight  or  matured  collection  items, 
either  direct  presentation  is  made  or,  if  they  are  country  items, 
they  are  mailed  immediately  to  a  correspondent  bank  for  pre- 
sentation. It  has  been  pointed  out  that  ticklers  are  kept  by  the 
collection  department  to  call  attention  to  the  notes  maturing 
each  day.  The  items  themselves  are  filed  in  pouches,  wallets,  or 
note  boxes.  The  receptacles  are  divided  into  two  main  sections, 
one  for  items  payable  in  the  city  and  the  other  for  items  payable 


I62  BANKING  PRACTICE  [IX 

out  of  town.  Each  section  is  subdivided  into  compartments, 
each  compartment  containing  the  notes  of  each  maturity  date. 
Thus,  the  notes  recorded  on  each  page  of  the  tickler  are  contained 
in  separate  compartments,  the  country  items  in  one  and  the  city 
items  in  another.  The  items  are  kept  here,  as  was  stated  before, 
until  time  for  presentation. 

Payment  of  Collections. — When  payment  is  made  for  collec- 
tion items  it  may  be  made  in  one  of  five  forms: 

1.  Cash 

2.  Certified  check 

3.  Cashier's  check 

4.  Bank  draft 

5.  By  debit  to  an  account 

Payment  in  cash  is  not  likely  to  be  received  by  the  bank  unless 
the  payee  is  in  the  same  city  and  even  in  such  cases  payment  in 
cash  is  not  frequent.  Certified  checks,  on  the  other  hand,  are 
widely  used,  some  banks  requiring  that  all  pa3niients  for  collec- 
tion items  must  be  made  in  this  form.  When  remittance  is  made 
by  out-of-town  collecting  agents,  they  sometimes  settle  with  the 
primary  bank  by  sending  a  cashier's  check  for  the  proceeds  of  the 
collections.  This  would  then  be  handled  by  the  receiving  bank 
like  any  transit  item. 

The  fourth  method  of  remittance  is  illustrated  in  the  use  of  a 
bank  draft.  The  out-of-town  correspondent  may  draw  on  its 
account  with  another  city  bank  and  send  such  a  draft  to  the 
original  collecting  bank.  The  instrument  would  be  collected  by 
the  receiving  bank  either  through  the  clearing  house  or  as  a 
transit  item,  depending  upon  whether  the  bank  upon  which  the 
draft  is  drawn  is  located  in  the  same  city  or  not. 

The  fifth  method  of  obtaining  settlement  is  by  the  process  of 
debiting  the  account  of  the  collecting  agent  or  debiting  the  ac- 
count of  the  drawee.  For  example,  a  collection  item  payable  in 
the  same  city  may  be  settled  for,  if  the  drawee  is  a  depositor  of 


IX] 


COLLECTIONS 


163 


the  collecting  bank,  by  charging  his  account  at  his  request  with 
the  amount  of  the  item. 

If  the  collection  item  is  payable  out  of  town,  the  correspon- 
dent who  is  acting  as  collecting  agent  for  the  city  bank  advises 
the  bank  that  payment  has  been  effected,  and  requests  that  its 
account  be  charged  for  the  amount.    In  case  the  collecting  agent 


THE  NATIONAL  CITY  BANK  OF  NEW  YORK 
OFFICE  COPY                                                n...        At)ril  27,    1921 

Record  of  credit  as  follows: 

D>i<  of 

THEIR 
NUMBER 

DRAWEE 

AMOUNT  OF  CREDIT 
$     4,036.10 

4-26 

407A 

Bank  of  Montreal 

Credited  to: 

Rlggs  National  Bank, 
Washington,    D.    C, 

"            '                                                                     CITY  COLLECTION  DEPT. 

Form  16.     (a)  Letter  Advising  Credit  for  Proceeds  of  a  Collection  (original). 

(Size  6  X  8.) 


is  a  city  bank  with  whom  the  sending  bank  carries  a  deposit,  the 
latter  is  credited  for  the  amount.  In  this  means  of  settlement 
Form  16  is  used.  If  the  collection  has  been  made  through  one  of 
the  federal  reserve  banks,  it  sends  an  advice  stating  that  collec- 
tion has  been  effected  and  the  account  of  the  receiving  bank  with 
the  reserve  bank  in  its  particular  district  is  then  credited  for  the 
amount;  that  is,  if  any  items  were  sent  to  the  Chicago  Federal 
Reserve  Bank  by  a  New  York  bank  for  collection,  the  advice  of 
payment  would  be  made  by  the  Chicago  bank  direct  to  the  New 
York  bank,  and  the  New  York  Federal  Reserve  Bank  would  also 


164 


BANKING  PRACTICE 


[IX 


THE  NATIONAL  CITY  BANK  OF  NEW  YORK        No. 

p,,,     April  37.    193; 

CREDIT  llie  aecouni  thown  in  lower  Ufl  h»nd  corner: 

AMOUNT  OF  CREDIT 


)    4,036.10 


Thcii  Letter                THEIR 
D.t^                NUMBER 

DRAWEE 

4-26 

407A 

Bank  of  Montreal 

CREDIT 


Uy 


Rigg8  National  Bank, 
Washington,   D.   C. 


Collection  Dept. 


Checked, 


M 


^tlJn^L 


.Clerk 


Form  16.      (b)  Letter  Advising  Credit  for  Proceeds  of  a  Collection  (duplicate) 


THE  NATIONAL  CITY  BANK  OF  NEW  YORK 

Dear  Sir(s)  :  New  York. Apr1  1     ?.7  ,      1fir!1 

Your  account  has  credit  for  the  following  described  items: 


YOUR  LETTER 
DATE 

YOUR 

NUMBER 

DRAWEE 

4-36 

407  A 

Bank  of  Montreal 

- 

To 

RiKKs  National  Bank, 

z:zi\ 

>AY 

Washington,   D.    C. 

CITY  CO 

LL 

4.036.10 


BY. 


.;^i^  A^. 


Form  16.      (c)  Letter  Advising  Credit  for  Proceeds  of  a  Collection  (triplicate). 


IX]  COLLECTIONS  165 

advise  the  bank  in  question  that  its  account  with  the  New  York 
Federal  Reserve  Bank  had  been  credited  for  the  amount. 


Settlement  with  the  Owner  of  the  Items.— The  bank  in  which 
a  collection  item  is  originally  deposited  settles  with  its  customer 
in  various  ways,  depending  upon  his  instructions.  Most  fre- 
quently the  customer  desires  the  proceeds  to  be  placed  to  his 
credit  in  the  bank.  In  such  case  a  credit  ticket  is  sent  to  the  book- 
keeper in  charge  of  the  account  and  the  customer  himself  is  ad- 
vised that  the  credit  has  been  made.  If  the  customer  desires  a 
remittance,  it  is  made  usually  in  the  form  of  a  cashier's  check  sent 
by  mail.  The  Cashier's  Check  account  in  such  case  is  credited 
with  the  amount  and  when  the  check  is  returned  the  account  is 
debited,  thus  closing  the  transaction. 

Other  Collection  Functions. — Besides  these  more  or  less  char- 
acteristic functions  of  the  collection  department,  there  are  certain 
incidental  duties  performed  by  the  employees  in  the  department. 
This  is  particularly  true  of  that  part  of  the  work  which  is  handled 
by  the  note  teller  in  some  of  the  larger  banks.  It  is  said  that  all 
the  duties  which  are  not  strictly  allocated  to  other  departments 
are  given  to  the  note  teller. 

Collecting  Overdue  Accounts.  In  addition  to  the  usual  col- 
lection activities  country  banks  sometimes  seek  to  collect,  for 
out-of-town  clients,  overdue  accounts  owing  by  local  persons. 

Delivery  of  Valuable  Papers.  A  bank  is  frequently  called 
upon  to  deliver  valuable  papers  such  as  stock  certificates,  bonds, 
deeds,  and  mortgages  to  certain  parties  when  these  parties  have 
made  specified  payments  to  the  bank  or  have  performed  certain 
specified  acts.  Sometimes  the  bank  is  requested  to  sell  certain 
valuables  for  the  customer's  account. 

Care  of  Special  Deposits.  Certain  special  deposits  are  handled 
by  the  note  teller,  as  has  been  described  in  Chapter  V  in  con- 


l66  BANKING  PRACTICE  [IX 

ncction  with  the  receiving  operations.  A  closely  associated 
function  which  is  sometimes  turned  over  to  the  employees  in  this 
department  is  that  of  issuing  certificates  of  deposit  upon  the  appli- 
cation of  the  customer  and  approval  of  an  officer  of  the  bank. 

Handling  Telegraphic  Transfers.  The  handling  of  telegraphic 
transfers  of  money  for  customers  is  cared  for  by  the  collection 
department.  The  nature  of  a  telegraphic  transfer  may  be  illus- 
trated by  a  typical  transaction.  A,  a  customer  of  the  bank  in 
New  York,  desires  to  send  $10,000  immediately  to  B  in  San 
Francisco.  A  applies  at  the  window  of  his  bank  for  a  telegraphic 
transfer,  turning  over  to  the  bank  $10,000.  The  bank  telegraphs 
its  correspondent  in  San  Francisco  to  pay  the  amount  to  B  and  to 
charge  the  item  to  its  account.  The  San  Francisco  bank  notifies 
B  upon  receipt  of  the  telegram  and  upon  proper  identification 
pays  him  $10,000.  The  bank  in  New  York  credits  the  account 
of  the  San  Francisco  bank  on  its  ledger  with  $10,000,  and  the 
San  Francisco  bank  in  turn  makes  a  debit  entry  against  the  re- 
ciprocal account  of  the  New  York  bank. 

Issuance  of  Cashier's  Checks  and  Bank  Drafts.  Another 
miscellaneous  activity  of  the  collection  department  consists  of 
the  issuance  of  cashier's  checks.  A  cashier's  check  is  a  check 
drawn  by  the  cashier  of  a  bank  against  a  special  cashier's  account 
in  his  own  institution.  Such  checks  are  used  frequently  by  banks 
in  making  payments  to  those  to  whom  they  are  indebted,  and  are 
sometimes  used  instead  of  certified  checks  and  bank  drafts  in 
making  transfers  of  funds  from  place  to  place.  Where  the  volume 
of  work  in  issuing  cashier's  checks  is  considerable,  the  employees 
in  the  collection  department  or  note  teller's  department,  or  in 
some  cases  the  general  ledger  department,  draw  up  these  checks, 
sometimes  having  them  signed  by  the  cashier  and  sometimes  by 
another  properly  authorized  person. 

The  issuance  of  bank  drafts  in  many  banks  is  handled  by  the 
paying  teller;  in  others  it  is  handled  by  a  special  draft  clerk  or  by 
employees  who  are  engaged  in  the  collection  work. 


IX^  COLLECTIONS  167 

Care  of  Certain  Remittances.  It  sometimes  happens  that  a 
bank  receives  remittances  which  are  not  accompanied  by  in- 
structions sufficiently  clear  to  enable  it  to  dispose  of  the  funds. 
Such  remittances  are  sent  by  the  various  receiving  departments 
to  the  note  teller's  department  to  be  held  until  proper  disposition 
can  be  made  of  them. 

It  is  thus  evident  that  a  great  many  duties  not  strictly  per- 
taining to  collection  work  are  performed  by  those  who  are  charged 
with  the  collection  work  of  the  bank.  This  diversity  of  functions 
is  explained  by  the  fact  that  the  collection  work  in  itself  requires 
the  bank  to  exercise  agency  activities,  and  having  once  embarked 
on  agency  activities  the  bank  is  likely  to  be  called  upon  to  pen 
form  many  other  related  services. 

The  Bank's  Revenue  from  Collection  Work. — While  a  good 
many  of  the  services  performed  by  the  collection  department 
of  a  bank  are  offered  as  services  to  the  customer,  and  therefore 
without  charge,  many  other  transactions  are  made  to  pay 
for  themselves  by  the  imposition  of  a  moderate  charge.  Some 
banks  establish  a  minimum  fee  for  collecting  items,  and  this 
minimum  charge  is  supplemented  by  a  charge  of  y  „-  per  cent  in 
the  case  of  large  items.  The  associated  banks  in  New  York 
usually  perform  their  collection  operations  within  the  city  with- 
out any  charge  to  the  depositor,  but  for  items  payable  in 
places  other  than  New  York  the  clearing  house  rules  require 
the  collection  of  exchange  at  minimum  rates  designated  by  the 
clearing  house.  For  some  of  the  incidental  activities,  such  as 
the  delivery  of  valuable  papers  on  the  completion  of  a  contract 
or  the  selling  of  certain  property,  banks  sometimes  charge  an 
arbitrary  fee,  but  more  frequently  they  perform  such  service 
gratuitously  for  their  customers.  It  may  be  said  in  general  that 
in  most  cases  banks  do  not  count  on  making  the  collection  de- 
partment yield  any  considerable  direct  revenue.  Such  a  de- 
partment is  profitable  to  the  bank  indirectly  because  of  the  fact 


l68  BANKING  PRACTICE  [IX 

that  it  obtains  the  business  and  the  good-will  of  those  who  make 
use  of  its  services. 

Distribution  of  the  Collection  Department  Receipts. — The 
receipts  of  the  various  collection  departments  are  disposed  of  in 
the  same  manner  as  are  the  receipts  of  the  other  operating  de- 
partments which  have  already  been  described.  The  cash  goes  to 
the  paying  teller,  debit  and  credit  items  for  individual  accounts 
are  sent  to  the  bookkeepers  handling  such  accounts,  the  debits 
and  credits  to  the  various  bank  correspondents'  accounts  are  sent 
to  the  bookkeepers  in  charge  of  those  ledgers,  and  the  items  to  go 
to  the  clearing  house  are  sent  to  the  clearing  desk.  Credits  for 
exchange  collected  are  delivered  to  the  general  ledger  bookkeeper 
for  record  among  the  profits  of  the  bank.  Where  the  collection 
department  is  divided,  as  previously  explained  in  this  chapter,  in- 
to a  fifth  teller's  department  and  a  third  teller's  department,  each 
of  these  tellers  prepares  a  proof  of  his  day's  work.  These  proofs 
record  the  cash  and  cash  items  received  and  those  sent  out.  When 
the  desks  are  cleared  the  total  cash  receipts  and  the  total  cash  items 
distributed  to  other  departments  of  the  bank  should  be  equal. 

Significance  of  the  Department  Proof. — The  fifth  teller's 
proof  has  special  significance  because,  in  addition  to  serving  as  a 
condensed  journal  record  of  the  transactions  passing  through  the 
department  for  the  day,  it  constitutes  an  inventory  of  unfinished 
cash  work,  since  all  unfinished  items  are  charged  to  this  depart- 
ment at  the  close  of  the  day.  In  this  function  it  somewhat  re- 
sembles the  paying  teller's  proof,  which  furnishes  an  inventory 
of  the  amount  of  cash  on  hand. 


CHAPTER   X 

THE  FOREIGN  EXCHANGE  BUSINESS 

International  or  World  Exchange. — The  fourth  class  of  ex- 
change transactions,  as  listed  in  Chapter  VII,  are  those  which 
involve  the  settlement  of  balances  in  different  parts  of  the  world. 
These  transactions  are  usually  referred  to  as  foreign  exchange,  to 
distinguish  them  from  the  other  three  classes  of  exchange  trans- 
actions facilitated  by  banks,  which  are  known  as  domestic  ex- 
change. 

Within  the  limits  of  a  single  country,  it  will  be  recalled,  funds 
are  transferred  from  one  person  to  another  in  either  a  near  or  a 
distant  place  by  simple  transfers  of  credit  on  the  books  of  banks, 
and  the  banks  settle  between  themselves  for  these  transfers,  one 
bank  requesting  another  to  debit  its  account  while  it  credits  the 
account  of  the  particular  correspondent  involved  or  vice  versa. 
In  foreign  exchange  transactions  a  similar  interrelation  exists 
between  the  banks  in  one  country  and  those  in  other  countries, 
making  it  possible  for  them  to  settle  the  accounts  of  individuals 
in  the  different  countries  by  obtaining  debits  or  credits,  as  the  case 
may  be,  on  the  books  of  foreign  banks  which  are  correspondents. 
Thus,  if  a  New  York  bank  and  a  London  bank  each  maintain 
an  account  with  the  other,  it  is  a  simple  matter  for  an  American 
importer  who  desires  to  pay  his  bill  in  London  to  go  to  the  New 
York  bank,  and,  by  depositing  a  sufficient  amount  of  money,  to  re- 
ceive from  the  New  York  bank  an  order  addressed  to  the  London 
bank  requesting  it  to  pay  a  specified  sum  to  the  London  seller  of 
the  goods.  When  the  London  shipper  receives  this  order  or  draft 
and  presents  it  to  the  London  bank,  he  receives  the  money  or  cred- 
it to  his  account,  and  the  London  bank  reduces  the  balance  main- 
tained with  it  by  the  New  York  bank  to  the  extent  of  the  order. 

169 


lyo  BANKING  PRACTICE  [X 

Foreign  versus  Domestic  Exchange. — While  the  transaction 
is  fundamentally  the  same  as  that  found  in  the  domestic  relations 
of  a  bank  and  its  customers,  there  are  two  important  differences. 
One  of  these  is  that  the  money  terms  in  which  the  transaction  is 
negotiated  and  settled  differ  for  different  countries.  Thus,  the 
English  merchant  measures  values  in  terms  of  pounds  sterling, 
whereas  the  American  thinks  of  money  in  terms  of  dollars.  Hence 
when  a  local  customer  takes  his  money  to  the  New  York  bank 
and  exchanges  it  for  an  order  on  its  London  bank  account,  he 
must  bear  in  mind  the  fact  that  the  Englishman  keeps  his  ac- 
counts in  another  monetary  unit,  and  therefore  provision  must  be 
made  for  converting  American  money  into  English  money. 

The  second  important  difference  between  the  domestic  and 
foreign  settlement  of  obligations  between  individuals  grows  out 
of  the  fact  that  the  credit  of  the  individual  is  not  estabhshed 
widely  enough  to  permit  him  to  settle  his  accounts  in  foreign 
countries  by  means  of  his  personal  check  on  a  local  bank.  In  the 
case  of  domestic  transactions  the  merchant  in  one  part  of  the 
country  may  pay  his  bill  in  another  part  merely  by  drawing  his 
check  on  a  local  bank,  leaving  the  settlement  and  transfer  of 
funds  to  be  made  between  the  banks;  but  in  international  trans- 
actions this  is  impossible.  An  importer  in  Chicago  cannot  settle 
his  indebtedness  to  an  English  exporter  by  sending  his  personal 
check  drawn  on  a  Chicago  bank.  The  banks  must  be  called  upon 
to  facilitate  this  exchange  transaction  to  a  greater  extent  than  in 
domestic  exchanges.  The  American  importer,  instead  of  drawing 
his  check  on  a  local  bank,  obtains  from  his  bank  its  own  check  or 
draft,  or  the  draft  of  one  of  its  correspondents,  on  the  balance 
maintained  by  the  bank  making  the  draft  in  the  country  to  which 
remittance  is  to  be  made. 

"  Foreign  Exchange  " — Two  Meanings  of  the  Term. — The 

foreign  exchange  business  consists  of  the  supplying  of  facilities, 
by  banks  and  commercial  houses  with  international  connections, 


XI  FOREIGN  EXCHANGE  BUSINESS  1 71 

by  means  of  which  their  balances  with  each  other  may  be  used  for 
the  purpose  of  settHng  the  indebtedness  of  individuals  in  different 
countries.  No  attempt  will  be  made  in  this  book  to  discuss  the 
theory  of  foreign  exchange  exhaustively,  as  there  are  special 
works  on  foreign  exchange  which  thoroughly  cover  the  field. 
The  purpose  here  is  merely  to  show  the  manner  in  which  trans- 
actions in  foreign  exchange  enter  into  the  banking  business. 

The  term  "foreign  exchange"  is  sometimes  used  in  a  quahfy- 
ing  or  adjective  sense  to  describe  the  nature  of  the  business,  as  in 
speaking  of  the  foreign  exchange  business,  or  of  a  foreign  ex- 
change department,  or  a  foreign  exchange  dealer.  Again,  it  may 
be  used  as  a  noun  to  indicate  the  material  entering  into  inter- 
national banking  transactions,  as  for  example,  when  referring  to 
the  supply  of  foreign  exchange  or  exchange  on  London,  that  is, 
the  balances  available  for  use  in  effecting  the  international  settle- 
ment of  obligations.  In  this  connection  foreign  exchange  is  re- 
garded as  a  commodity  which  is  bought  and  sold,  like  cotton, 
grain,  or  other  staples.  The  stock  of  the  foreign  exchange  dealer 
consists  of  his  balances  available  in  other  countries  which  he  can 
use  for  the  benefit  of  his  local  customers  in  settling  their  inter- 
national obligations. 

The  Mechanics  of  Foreign  Exchange. — From  the  above  de- 
scription the  nature  of  the  foreign  exchange  service  rendered  by 
banks  to  their  customers  can  be  readily  understood.  It  is  the 
furnishing  of  facilities  for  making  transfers  of  funds  from  one 
country  to  another.  In  brief,  these  transfers  are  made  possible 
by  the  fact  that  the  bank  furnishing  the  service  has  estabhshed  a 
credit  balance  with  other  banks  in  the  leading  financial  and  com- 
mercial centers  of  the  world,  and  that  for  a  satisfactory  payment 
it  accepts  the  deposit  of  funds  from  the  local  buyer  and  transmits 
these  funds  to  the  foreign  seller  by  delivering  to  its  local  customer 
a  draft  on  its  account  with  the  foreign  bank  drawn  in  terms  of  the 
money  units  used  in  the  foreign  country.     This  draft  is  then 


172  BANKING  PRACTICE  [X 

mailed  by  the  buyer  to  the  seller,  and  when  it  is  presented  by  the 
latter  to  the  bank  upon  which  it  is  drawn  the  money  is  paid  out 
and  charged  to  the  account  of  the  issuing  bank. 

Antiquity  of  the  Foreign  Exchange  Business. — The  business 
of  facilitating  international  payments  by  means  of  bills  of  ex- 
change is  one  of  the  oldest  of  banking  functions.  Bankers,  mer- 
chants, and  money-changers  in  the  medieval  trade  centers  of 
Europe  carried  on  a  very  extensive  business  in  the  handling  of 
bills  of  exchange.  In  many  cases  they  actually  exchanged  the 
coins  of  the  various  countries ,  handing  to  each  customer  the 
kinds  of  money  material  he  desired;  and  money  itself  was  trans- 
ported from  one  country  to  another  for  the  settlement  of  accounts 
more  frequently  in  proportion  to  the  amount  of  business  done 
than  is  the  case  today.  The  more  intimate  banking  and  trade 
connections  which  have  been  developed  with  the  passage  of  time 
and  the  phenomenal  improvements  in  means  of  communication 
have  reduced  to  a  minimum  the  actual  shipments  of  money  for  the 
transaction  of  foreign  business. 

Mint  Parity  between  Gold  Standard  Countries. — The  alter- 
native to  the  shipment  of  money  consists  in  obtaining  from  a 
banker  who  maintains  a  balance  in  a  foreign  country  the  privilege 
of  using  part  of  this  balance  in  the  settlement  of  an  obligation. 
To  obtain  this  privilege  requires  the  deposit  of  an  equivalent 
amount  of  money  with  the  bank  which  is  granting  the  privilege 
of  using  its  account.  Since  the  money  units  of  different  countries 
vary,  it  becomes  necessary  to  ascertain  how  much  money  of  a 
given  kind — say,  dollars — it  will  require  to  obtain  a  similar 
quantity  of  some  other  money,  for  instance,  pounds  sterling. 
The  calculation  is  made  by  ascertaining  the  quantity  of  gold  or 
other  standard  money  material  in  the  monetary  units  of  each 
country,  and  then  dividing  one  by  the  other  to  see  how  much  of 
one  it  takes  to  equal  the  other.    For  example,  the  standard  mone- 


X]  FOREIGN  EXCHANGE  BUSINESS  173 

tary  unit  in  the  United  States  is  the  gold  dollar,  containing  23.22 
grains  of  pure  gold.  The  pound  sterling  or  gold  sovereign,  which 
is  the  English  unit,  contains  113.002  grains  of  pure  gold.  Divid- 
ing the  gold  content  of  the  pound  sterling  by  the  gold  content  of 
the  dollar,  it  is  found  that  it  takes  $4.8665  in  American  money  to 
provide  a  quantity  of  gold  equal  to  that  found  in  the  pound 
sterling.  This  figure  ($4.8665)  is  called  the  "unit  par"  of  ex- 
change between  the  two  countries. 

Other  Elements  in  the  Rate  of  Exchange. — Such  a  calcula- 
tion, however,  does  not  in  itself  determine  the  amount  which  the 
banker  will  demand  to  transmit  a  given  quantity  of  American 
money  to  England.  In  building  up  the  balance  against  which  he 
draws,  the  banker  has  incurred  certain  expenses.  He  may  have 
shipped  actual  gold  to  the  English  correspondent  to  obtain  a 
balance.  In  such  an  event  he  would  incur  the  expenses  of  trans- 
porting the  gold  and  he  would  seek  to  recover  his  outlay  from 
those  who  use  the  balance.  Furthermore,  he  is  dealing  in  a  com- 
modity, exchange,  which  is  in  demand  and  which  therefore  fluc- 
tuates in  price  according  to  the  volume  of  the  supply  and  the 
extent  of  the  demand  of  buyers.  If  there  are  a  large  number  of 
persons  desiring  to  use  the  balance  he  has  built  up,  the  banker 
may  be  able  to  exact  a  price  which  will  give  him  a  considerable 
profit  on  the  transaction.  If,  on  the  other  hand,  there  are  a  large 
number  of  bankers  who  possess  similar  balances  which  they  wish 
to  sell  and  the  number  of  buyers  of  exchange  is  relatively  small, 
competition  among  the  sellers  may  bring  down  the  price  to  a 
point  where  the  sellers  may  suffer  loss  in  disposing  of  their 
balances. 

Limitations  on  the  Price  of  Exchange. — Under  normal  condi- 
tions, with  gold  readily  obtainable  and  no  difficulties  in  the  way 
of  transporting  it,  it  is  usually  assumed  that  the  price  asked  by  a 
banker  for  a  draft  on  his  account  cannot  exceed  the  mint  par  by 


174  BANKING  PRACTICE  [X 

more  than  the  cost  of  shipping  gold.  Otherwise  the  debtor  has 
the  obvious  alternative  of  obtaining  gold  bullion  and  shipping  a 
sufficient  quantity  of  it  to  equal  his  indebtedness  in  the  foreign 
currency.  On  the  other  hand,  under  the  assumed  conditions,  the 
price  to  which  exchange  might  fall  below  the  mint  par  is  deter- 
mined similarly  by  the  cost  of  importing  gold.  If  the  banker 
could  not  get  anybody  to  pay  him  for  a  draft  on  his  account  as 
much  as  he  would  obtain  by  having  gold  shipped  and  paying  the 
expenses  for  transportation,  he  would  suffer  the  least  loss  by  im- 
porting the  gold  himself. 

Gold  Export  Point  and  Gold  Import  Point.— The  points  above 
and  below  the  mint  par  at  which  it  is  profitable  to  export  or 
import  gold  rather  than  to  buy  or  sell  bills  of  exchange  are  spoken 
of  as  the  gold  export  and  the  gold  import  points.  The  general 
statement  is  that  if  the  price  charged  for  a  bill  of  exchange  ex- 
ceeds the  cost  of  shipping  gold  in  settlement  of  the  account,  gold 
will  flow  out  of  the  country.  The  point  at  which  it  becomes  profit- 
able to  ship  gold  is  the  export  point.  Conversely,  the  point  at 
which  it  becomes  profitable  to  import  gold  rather  than  to  sell 
bills  of  exchange  below  the  mint  par  becomes  the  gold  import 
point.  As  indicated  before,  these  points  are  said  to  be  above  and 
below  the  mint  par  by  an  amount  equal  to  the  cost  of  shipping 
gold.  The  price-making  process  for  exchange  might  be  briefly 
covered  in  the  statement  that  within  the  upper  limit  established 
by  the  cost  of  exporting  gold  and  the  lower  limit  established  by 
the  cost  of  importing  gold,  the  price  or  rate  of  exchange  fluc- 
tuates according  to  supply  and  demand. 

The  cost  of  shipping  gold,  however,  is  not  the  sole  determinant 
in  establishing  the  upper  and  lower  limits  in  question.  Gold  may 
be  impossible  to  obtain,  or  even  if  obtainable  there  may  be  re- 
strictions upon  its  export  or  difficulties  in  the  way  of  its  transpor- 
tation. These  conditions  may  make  it  necessary  to  pay  a  very 
much  higher  price  for  exchange  or  to  sell  exchange  for  a  very 


X]  FOREIGN  EXCHANGE  BUSINESS  175 

much  lower  price  than  would  normally  be  expected.     Further- 
more, the  gold  shipping  points  vary  with  the  cost  of  shipment. 

Since  19 14  all  these  influences  have  had  a  part  in  causing 
extreme  variations  in  the  price  of  exchange  on  different  countries. 
Gold  has  been  difficult  to  obtain;  there  have  been  embargoes  on 
its  exportation  and  in  some  cases  on  its  importation.  Transpor- 
tation has  often  been  dangerous  and  frequently  impossible  to 
arrange  for,  and  when  arranged  for  the  cost  has  frequently  been 
extremely  high.  Hence,  even  though  rates  of  exchange  frequently 
reached  points  where  it  would  have  seemed  desirable  to  ship 
gold,  gold  was  not  shipped,  either  because  it  was  not  obtainable 
or  because  it  could  not  be  transported  except  at  great  risk  and 
cost.  Added  to  these  difficulties  was  that  occasioned  by  the 
complete  readjustment  in  trade  relations  brought  about  by  the 
war,  which  made  some  countries  heavy  debtors  to  others.  These 
adverse  balances  became  so  large  that  there  was  not  sufficient 
gold  to  pay  them,  even  if  the  whole  stock  in  the  possession  of  the 
country  in  question  had  been  shipped.  Hence  there  was  extra- 
ordinary competition  to  obtain  from  those  banks  which  had 
balances  in  the  locality  where  settlement  was  to  be  made  the  right 
to  use  those  balances.  This  competition  resulted  in  establishing 
the  rates  of  exchange  at  levels  previously  unheard  of. 

Commercial  or  Market  Parity. — The  exchange  situation 
brought  about  by  the  war  strikingly  illustrates  the  fact  that 
exchange  dealers  and  merchants  are  interested  in  the  mint  par 
of  exchange  only  incidentally.  What  interests  them  chiefly  is  the 
commercial  parity.  Commercial  parity  may  be  defined  as  the 
rate  at  which  bills  of  exchange  drawn  on  a  foreign  point  can  be 
bought  from  or  sold  to  dealers,  or  in  the  market.  These  rates 
fluctuate  from  day  to  day  according  to  demand  and  supply  rather 
than  according  to  the  intrinsic  worth  of  the  various  moneys 
involved.  These  variations  would  occur  even  if  the  money  units 
of  the  several  countries  involved  were  identical.    For  example, 


176  BANKING  PRACTICE  [X 

the  rates  for  exchange  on  New  York  prevailing  in  Canada,  where 
the  money  units  correspond  to  those  in  this  country,  fluctuate 
with  the  demand.  When  the  trade  balances  are  running  heavily 
against  Canada  and  in  favor  of  the  United  States  many  Canadian 
merchants  apply  to  their  local  banks  for  drafts  on  New  York.  If 
the  Canadian  banks  have  small  balances  in  New  York,  and  if  a 
great  many  of  their  customers  wish  to  use  these  balances,  they 
will  charge  a  higher  price  for  drafts  than  they  will  if  their  balances 
are  large.  In  the  latter  case  they  may  be  eager  to  exchange  the 
balance  in  New  York  for  cash  received  from  the  local  debtor. 

Similarly,  if  the  merchants  of  any  country,  say  Great  Britain, 
export  more  than  they  import,  there  will  be  a  great  demand  on 
the  part  of  the  foreign  buyers  of  English  goods  for  exchange  on 
London — assuming,  of  course,  that  there  are  no  other  equalizing 
tendencies.  As  the  balances  of  the  foreign  banks  in  London  de- 
cline under  this  heavy  demand,  competition  for  the  purchase  of 
the  remaining  balances  will  cause  the  rate  of  exchange  on  London 
to  rise  and  the  rate  of  exchange  on  the  other  country  in  the  trans- 
action to  decline.  The  discussion  of  exchange  rates,  accordingly, 
requires  an  analysis  of  the  causes  which  affect  the  supply  of,  and 
the  demand  for,  bills  of  exchange. 

Bills  of  Exchange,  Commercial  Bills,  and  Bankers'  Bills. — 
A  familiarity  with  the  meanings  of  the  terms  used  is  necessary 
before  one  attempts  to  discuss  the  operations  of  buying  and  sell- 
ing exchange.  The  term  "exchange"  itself  is  used  to  designate 
the  balance,  either  present  or  in  prospect,  standing  to  the  credit 
of  the  seller  of  the  exchange  and  against  which  he  makes  the  sale. 
The  order  which  the  seller  of  exchange  draws  against  this  balance 
and  which  corresponds  to  the  check — or  more  nearly  the  bank 
draft — in  domestic  exchange,  is  spoken  of  as  a  draft  or  a  bill  of 
exchange.  These  documents  are  of  various  forms  but  they  are 
spoken  of  generically  as  bills.  They  may  be  divided  into  two  main 
classes,  commercial  bills  and  bankers'  bills.     The  former  are 


X]  FOREIGN  EXCHANGE  BUSINESS  177 

drafts  which  are  drawn  by  commercial  houses,  that  is,  houses 
other  than  banks.  They  are  usually  drawn  in  settlement  of  ob- 
hgations  growing  out  of  commercial  transactions,  such  as  the 
exportation  or  importation  of  commodities.  Bankers'  bills, 
on  the  other  hand,  consist  of  drafts  drawn  by  banks  on  other 
banks. 

Clean  Bills  and  Documentary  Bills. — Commercial  bills  may 
be  classed  as  clean  bills  or  documentary  bills.  Just  as  in  the  case 
of  domestic  exchange  drafts  drawn  for  the  purpose  of  collecting 
funds  from  the  buyer  of  merchandise  are  frequently  accompanied 
by  bills  of  lading  and  other  shipping  documents  which  are  to  be 
delivered  only  upon  payment  of  the  draft;  so  in  international 
trade  many  drafts  are  drawn  in  connection  with  the  shipment  of 
goods  which  have  shipping  documents  attached,  and  which  carry 
instructions  that  these  documents,  giving  possession  of  the  goods, 
are  to  be  delivered  only  on  payment  of  the  draft.  Drafts  thus 
accompanied  by  shipping  papers  or  other  documents  are  spoken 
of  as  documentary  bills,  while  those  which  are  not  thus  accom- 
panied by  documents  are  spoken  of  as  clean  bills.  Clean  bills 
are  used  to  effect  a  settlement  after  the  goods  have  been  delivered 
or  for  payment  of  standing  accounts. 

The  Ocean  Bill  of  Lading. — The  most  important  document 
which  accompanies  a  foreign  draft  is  the  ocean  bill  of  lading;  like 
the  domestic  bill  of  lading,  it  is  both  a  receipt  for  goods  delivered 
to  a  transportation  company  by  the  shipper  and  a  contract  be- 
tween the  transportation  company  and  the  shipper  covering  the 
conditions  under  which  the  shipment  is  to  be  made.  An  ocean 
bill  of  lading  is  drawn  up  in  several  copies,  according  to  circum- 
stances. Some  of  the  copies  are  negotiable  and  others  are  not. 
Those  which  are  negotiable  represent  title  to  the  goods  and  are 
issued  for  the  purpose  of  transferring  commodities  from  one  party 
to  another.    Those  which  are  not  negotiable  are  issued  for  pur- 


178  BANKING  PRACTICE  [X 

poses  of  record.     The  collecting  bank  is  concerned  only  with 
negotiable  copies. 

Ocean  bills  of  lading  are  drawn  either  to  order  or  directly  to 
the  consignee.  An  order  bill  of  lading  may  be  drawn  to  the  order 
of  the  shipper  or  in  blank.  It  is  indorsed  by  the  shipper  to  his 
bank,  by  the  bank  to  its  foreign  correspondent,  and  by  the  foreign 
correspondent  to  the  consignee  of  the  goods.  On  its  margin  is 
usually  stamped  a  clause  requesting  the  transportation  company 
to  notify  the  consignee  when  the  goods  arrive  at  their  destination. 

Marine  Insurance  Policy. — Another  important  document 
which  usually  accompanies  the  commercial  bill  is  the  marine 
insurance  policy.  Foreign  shipments  are  almost  without  excep- 
tion protected  by  insurance  against  losses  which  may  occur  in 
transit.  In  contrast  with  the  domestic  railroad  company,  which 
is  by  law  virtually  the  insurer  of  the  goods  it  carries,  the  ocean 
carrier  is  legally  liable  for  only  a  few  of  the  risks  of  transportation. 
Hence  the  insurance  policy  becomes  a  necessary  means  of  pro- 
tecting the  owner  against  shipping  risks. 

Invoices  and  Certificates. — There  are  various  other  docu- 
ments which  sometimes  accompany  the  drafts.  The  invoice  is 
used  in  the  same  sense  in  foreign  trade  as  it  is  in  domestic  trans- 
actions. It  provides  an  enumeration  of  the  goods  contained  in 
the  shipment,  together  with  the  selling  price  and  a  statement  of 
whatever  charges,  such  as  freight,  insurance,  and  similar  items, 
are  included  in  the  seller's  total  bill  against  the  purchaser.  Such 
charges  are  sometimes  borne  by  the  seller  and  sometimes  by  the 
buyer,  according  to  the  terms  of  the  sale.  Usually  the  purchaser 
pays  those  expenses  which  occur  in  connection  with  the  shipment 
after  it  has  been  loaded  on  the  ship  by  the  exporter.  In  the  case 
of  certain  commodities,  certificates  of  weight,  analysis,  and  in- 
spection are  required  by  the  customs  authorities. 

Another  document  is  the  consular  invoice.   This  is  a  document 


XJ  FOREIGN  EXCHANGE  BUSINESS  179 

certified  to  by  a  consul  of  the  country  to  which  the  shipment 
is  consigned,  giving  a  description  of  the  goods  and  a  declaration 
of  their  value,  for  the  assistance  of  the  customs  authorities. 
Certificates  of  origin,  certifying  that  the  merchandise  is  a  produc- 
tion of  the  country  from  which  it  is  exported,  sometimes  accom- 
pany the  draft. 

Payment  Bills  and  Acceptance  Bills. — Documentary  bills  are 
further  classified  as  payment  bills  and  acceptance  bills.  Payment 
bills  are  those  which  specify  that  documents  are  to  be  delivered 
only  upon  the  payment  of  the  amount  of  the  draft.  Acceptance 
bills  are  those  on  which  the  documents  are  to  be  delivered  when 
the  drawee  accepts  the  draft.  As  the  possession  of  the  documents 
gives  possession  of  the  goods,  acceptance  bills  from  their  nature 
involve  more  risk  than  payment  bills.  In  the  case  of  the  latter 
possession  of  either  the  money  or  the  goods  is  always  retained  by 
the  shipper  or  his  agent,  whereas  in  the  case  of  acceptance  bills 
the  goods  are  given  up  on  the  mere  promise  of  the  acceptor  that 
he  will  pay.  The  credit  rating  of  the  bill  varies  of  course  with  the 
acceptor.  If  accepted  by  a  large  well-known  bank,  an  accept- 
ance bill  has  very  high  credit  rating. 

Short  Bills  and  Long  Bills. — A  further  classification  may  be 
made  on  the  basis  of  the  time  for  which  the  bills  are  to  run. 
There  are  bills  known  as  short  bills  and  others  known  as  long 
bills.  Short  bills  run  usually  for  lo,  15,  or  30  days  from  sight  or 
date,  while  long  bills  run  for  60,  90, 120  days,  or  even  six  months. 
Sometimes  these  time  bills  are  drawn  payable  a  certain  number  of 
days  ''after  date";  at  other  times  they  are  drawn  "after  sight," 
that  is,  after  presentation.  This  distinction  is  of  importance. 
In  a  foreign  transaction  several  weeks  may  elapse  between  the 
making  of  the  draft  and  its  presentation.  A  foreign  draft  drawn 
"90  days  after  date"  might  be  payable  much  sooner  than  one 
drawn  payable  "90  days  after  sight." 


l8o  BANKING  PRACTICE  [X 

Commercial  Checks. — Commercial  checks  are  sometimes  en- 
countered in  foreign  exchange.  A  commercial  check  is  a  check 
drawn  by  a  commercial  house  on  its  balance  in  some  other  coun- 
try. Some  of  the  large  trading  and  manufacturing  concerns  main- 
tain deposit  balances  in  foreign  banks;  and  in  order  to  transfer 
funds  from  such  accounts  to  their  home  office,  they  draw  checks 
on  this  balance  and  sell  them  in  the  foreign  exchange  market. 

Bankers'  Checks. — The  most  common  type  of  foreign  ex- 
change instrument  issued  by  bankers  is  the  bankers'  check.  This 
instrument  is  similar  to  a  commercial  check  in  all  respects,  except 
that  it  is  drawn  by  a  banker  against  balances  standing  to  his 
credit  in  foreign  banks.  American  bankers'  checks  are  used  fre- 
quently by  Americans  who  wish  to  make  remittances  abroad. 
Bankers'  checks  drawn  by  American  banks  may  be  either  in 
dollars  or  in  foreign  currency,  depending  upon  the  contract  be- 
tween the  remitter  and  the  payee.  Foreign  currency  drafts  are 
the  more  frequently  used,  although  the  use  of  dollar  drafts  is  in- 
creasing. If  the  drafts  are  drawn  on  foreign  currency,  the  payee 
in  the  foreign  country  obtains  payment  of  the  face  amount  of  the 
draft  in  his  own  money.  On  such  a  draft  the  remitter  bears  the 
expense.  Any  uncertainty,  moreover,  as  to  rate  of  exchange  is  his 
affair. 

A  bankers'  check  drawn  in  dollars  and  payable  in  a  foreign 
country  necessitates,  on  the  part  of  the  payee,  the  conversion  of 
the  dollars  into  the  money  of  his  own  country.  Usually,  of  course, 
the  payee  prefers  to  have  a  check  come  to  him  in  such  units  that 
he  can  use  the  funds  immediately  with  no  risk  as  to  the  rate  of 
exchange.  If,  however,  dollars  are  appreciating  in  value  com- 
pared with  the  foreign  currency,  the  request  is  frequently  made 
for  a  remittance  in  dollar  exchange,  in  the  expectation  that  by 
the  time  the  draft  reaches  the  payee  dollars  will  have  further 
appreciated.  If  the  expectation  is  realized,  the  dollar  can  then 
be  converted  in  the  exchange  market  into  a  larger  amount  of  the 


X]  FOREIGN  EXCHANGE  BUSINESS  l8l 

foreign  currency  than  would  have  been  obtained  if  the  conversion 
had  been  made  at  the  time  the  draft  was  forwarded  by  the  Ameri- 
can debtor. 

Bankers'  Long  Bills. — Bankers'  short-time  bills  are  not  very 
often  encountered,  but  bankers'  long  bills  are  used  by  importers 
who  have  debts  maturing  abroad  at  some  time  in  the  future  for 
which  they  wish  to  provide  funds.  Long  bills  can  usually  be 
purchased  at  a  lower  price  than  sight  or  cable  exchange  because 
the  banker  selling  the  long  bill  has  the  use  of  the  money  during 
the  period  the  bill  has  to  run.  The  difference  in  price,  therefore, 
tends  to  vary  with  the  rate  of  interest  prevailing  at  the  time  the 
bill  of  exchange  is  sold.  It  is  modified,  however,  by  anticipated 
changes  in  the  rates  of  exchange  between  the  date  of  the  sale  of 
the  bill  and  the  date  of  its  maturity. 

The  use  of  the  bankers'  long  bill  may  be  made  clear  by  illus- 
tration. A  in  America  owes  B  in  England  £i,ooo  payable  in  90 
days  from  date.  A  has  the  money  at  hand  to  pay  immediately, 
but  there  is  no  advantage  in  paying  B  in  advance  nor  does  A  want 
to  have  his  money  idle.  He  finds  that  the  rate  for  a  bankers' 
check  today  is  $3.76,  while  for  a  90-day  bill  it  is  $3.70.  In  the 
one  case  it  would  cost  him  $3,760  and  in  the  other  $3,700  to  buy 
the  exchange  with  which  to  pay  B.  The  long  bill  would  obviously 
be  cheaper  by  $60.  He  therefore  invests  his  $3,700  in  a  bankers' 
long  bill  of  £1,000  due  in  90  days  and  sends  this  to  his  English 
creditor.  The  latter  may  hold  it  until  maturity  or  he  may  have 
it  discounted  in  the  London  money  market. 

Long  bills  are  also  used  by  bankers  in  their  foreign  loans  and 
financial  operations.  Thus,  if  the  rate  of  interest  for  money  in  the 
New  York  market  is  higher  than  the  rate  prevailing  in  the  Lon- 
don money  market,  an  American  banker  might  draw  a  long  bill 
for  a  certain  sum,  at  the  request  of  his  London  agent  or  corres- 
pondent, and  sell  it  in  the  New  York  market,  lending  the  proceeds 
at  the  prevailing  rate.    Such  loans  may  be  secured  by  collateral. 


1 82  BANKING  PRACTICE 


[X 


The  buyer  of  the  bill  forwards  it  to  London,  where  it  is  accepted 
and  discounted  at  the  lower  rate  prevailing  in  the  London  market. 
When  the  loan  in  the  New  York  market  is  paid  off  at  maturity, 
the  proceeds  are  used  to  buy  a  sight  draft  on  London;  and  this 
document  is  mailed  to  the  correspondent  bank  in  time  for  it  to 
obtain  the  cash  with  which  to  pay  the  long  bill  which  it  has  pre- 
viously accepted. 

Financial  Bills.— A  type  of  bankers'  long  bill  which  is  different 
in  nature,  though  exactly  the  same  in  appearance,  is  the  finance 
bill.  This  instrument  is  an  example  of  pure  credit  in  lending 
operations,  no  collateral  being  deposited.  The  distinction  be- 
tween this  type  of  bill  and  the  one  previously  described  is  that  in 
the  former  case  the  drawing  bank  acts  as  lending  agent  for  the 
drawee  bank,  while  in  the  latter  the  drawing  bank  virtually 
borrows  for  itself  in  its  own  money  market  on  the  strength  of  the 
acceptance  of  the  drawee  bank.  The  drawee  bank  is  not  required 
to  pay  any  money  until  the  bill  matures,  say  in  90  days,  and 
before  that  time  the  drawer  forwards  by  cable  or  sight  draft  the 
funds  with  which  to  meet  the  maturing  long  draft. 

Sight  Drafts:  Cables.— As  contrasted  with  the  time  bills, 
there  are  two  other  forms  of  draft.  One  of  these  is  the  sight  draft 
and  the  other  is  the  cable.  The  sight  draft  is  an  instrument  which 
is  payable  on  presentation.  Bankers'  checks  are  of  this  class,  as 
are  also  commercial  sight  drafts.  A  cable  transfer  is  one  in  which 
the  details  and  orders  are  sent  by  cable  instead  of  by  mail.  The 
distinction  between  a  cable  and  a  sight  draft  is  that  the  cable 
requires  only  a  few  hours  for  its  transmission,  whereas  the  sight 
draft  goes  by  mail  and  therefore  may  require  the  elapse  of  days 
or  weeks  before  payment  can  be  expected.  For  those  transactions 
which  necessitate  the  transfer  of  money  immediately,  the  cable  is 
used.  Cable  transfers  correspond  essentially  to  transfers  by  tele- 
graph within  the  country. 


CHAPTER  XI 
METHODS  OF  HANDLING  FOREIGN  EXCHANGE 

Dealers  in  Foreign  Exchange. — The  purchase  and  sale  of  the 
various  kinds  of  bills  arising  in  connection  with  foreign  exchange 
require  an  expert  knowledge,  not  only  of  the  nature  of  the  trans- 
actions, but  of  the  underlying  economic  forces  which  are  hkely  to 
affect  the  rates  of  exchange.  Hence  the  actual  dealings  in  ex- 
change are  made  by  specialists.  The  foreign  exchange  dealers 
buy  and  sell  exchange  both  at  wholesale  and  retail.  They  are  the 
intermediaries  between  those  who  have  exchange  to  sell  and  those 
who  wish  to  buy  it.  The  manner  in  which  exchange  is  accumu- 
lated and  the  kinds  of  transactions  which  cause  the  demand  for 
exchange  will  be  discussed  in  the  succeeding  chapters;  but  in 
anticipation  of  that  discussion  it  may  be  said  that  those  who  sell 
goods  or  services  to  other  countries  are  hkely  to  have  bills  of  ex- 
change on  those  countries  for  sale,  and  those  who  import  goods  or 
services  from  other  countries  are  likely  to  wish  to  buy  exchange 
on  such  countries.  It  is  the  business  of  the  traders  in  foreign 
exchange  to  buy  from  the  one  group  and  sell  to  the  other.  A 
profit  from  such  transactions  is  obtained  by  the  purchase  of  ex- 
change at  low  prices  and  the  sale  of  that  exchange  at  higher 
prices. 

New  York  the  Foreign  Exchange  Center  of  the  Country. — 

The  buying  and  selling  of  foreign  exchange,  so  far  as  the  United 
States  is  concerned,  is  confined  largely  to  New  York  and  to  a  rel- 
atively small  number  of  banks  in  that  city.  While  transactions 
in  foreign  exchange  originate  in  all  parts  of  the  country,  they  are 
mostly  effected  through  the  traders  in  New  York.  Accordingly, 
most  bankers  throughout  the  country  act  only  as  agents  for  the 

183 


l84  BANKING  PRACTICE  [XI 

purchase  and  sale  of  drafts,  sending  their  orders  for  execution  to 
their  New  York  correspondent. 

Functions  of  the  "  Traders." — Banks  handhng  foreign  ex- 
change have  a  special  department  or  division  devoted  to  the 
business.  The  actual  trading  is  in  the  hands  of  the  group  of  ex- 
perts known  as  the  "traders."  These  traders  have  two  main 
functions :  to  determine  the  rates  of  exchange  which  the  bank  will 
use  in  its  dealings  with  its  correspondent  banks,  and  to  buy  and 
sell  foreign  exchange  in  the  open  market.  Transactions  in  for- 
eign exchange  come  to  the  traders  from  other  divisions  of  the 
foreign  department  and  also  from  other  dealers  and  large  users 
of  foreign  exchange. 

The  purchases  and  sales  of  foreign  exchange  by  a  bank  in  its 
relations  with  its  customers  are  very  numerous  and  involve  large 
amounts.  The  traders  are  kept  informed  as  to  the  amount  of 
exchange  arising  in  connection  with  the  operations  of  the  various 
departments  of  the  bank,  such  as  the  foreign  discount  and  foreign 
collection  operations,  and  are  informed  also  of  the  demands 
which  have  been  made  upon  the  stock  of  exchange  through  the 
selling  operations  of  the  bank,  such  as  the  sales  of  bankers'  drafts 
made  by  interior  correspondent  banks,  who  rely  upon  the  metro- 
politan institution  to  supply  them  with  the  exchange  which  they 
sell  to  their  local  customers. 

The  Foreign  Exchange  Market.— In  addition  to  the  great 
volume  of  transactions  in  foreign  exchange  which  arise  within  the 
bank  in  the  conduct  of  its  regular  business,  the  traders  participate 
in  transactions  in  the  open  market.  This  market  is  composed  not 
only  of  the  dozen  or  more  large  banks  and  other  dealers  in  foreign 
exchange  in  New  York,  but  includes  also  any  other  banks  doing  a 
foreign  exchange  business  in  the  other  large  cities  in  the  United 
States  and  in  all  parts  of  the  world.  Large  international  business 
houses  owning  deposits  in  various  centers  abroad  also  constitute 


XI]  HANDLING  FOREIGN  EXCHANGE  185 

a  part  of  the  market.    These  transactions  are  nearly  always  of 
the  type  which  might  be  regarded  as  wholesale  operations. 

In  addition  to  the  traders  in  the  foreign  exchange  department 
of  a  large  bank,  there  are  bookkeepers  and  clerks  who  record  the 
rates  of  exchange  prevailing  in  other  financial  centers  and  keep  a 
record  of  the  balances  which  the  bank  accumulates  in  these 
centers.  The  traders  themselves  perform  the  actual  operations 
of  buying  and  selling  exchange  and  quoting  rates. 

Exchange  Rates  in  Other  Markets. — The  first  move  in  the 
day's  business  is  to  ascertain  the  rates  which  prevail  in  the  other 
leading  exchange  markets.  Because  of  the  ease  of  communica- 
tion, the  foreign  exchange  market  is  world-wide.  Hence  the  rate 
at  which  exchange  can  be  bought  or  sold  in  New  York  depends 
largely  upon  the  rates  prevailing  in  such  centers  as  London,  Paris, 
and  Berlin.  Although  London  has  for  years  enjoyed  preemin- 
ence as  the  leading  financial  center  of  the  world,  actual  trading  in 
exchange  has  been  of  minor  importance;  for  most  of  the  world's 
bills  have  been  drawn  on  London  and  have  been  bought  and  sold 
in  other  markets.  The  function  of  the  London  money  market 
has  been  to  discount  these  bills  which  are  drawn  in  terms  of  ster- 
ling. However,  with  the  growth  in  popularity  of  dollar  exchange, 
dealings  in  exchange  have  increased  in  London. 

Because  of  differences  in  time,  the  business  day  in  Europe  com- 
mences about  five  hours  before  the  American  business  day,  and 
trading  has  therefore  been  in  full  swing  for  some  hours  before  the 
market  in  New  York  opens .  The  foreign  exchange  dealers  in  New 
York,  as  a  result,  are  in  the  fortunate  position  of  being  able  to  see 
a  large  part  of  the  world  market  in  operation  before  they  actually 
do  any  trading.  The  information  as  to  quotations  and  market 
conditions  is  received  by  cable  from  correspondents  and  dealers. 

The  Parity  Sheet. — For  the  convenience  of  the  traders  in 
handhng  transactions,  a  parity  sheet  is  prepared.     This  sheet 


l86  BANKING  PRACTICE  [XI 

consists  of  a  tabulation  of  the  rates  quoted  in  the  chief  foreign 
exchange  markets  of  the  world,  expressed  in  terms  of  the  Ameri- 
can market.  Space  is  provided  for  entering  the  quotations  of 
England,  France,  Belgium,  Italy,  Holland,  and  Germany  in 
detail,  while  those  of  other  markets  are  shown  in  more  condensed 
form.  Thus,  for  the  chief  foreign  exchange  centers,  the  parity 
sheet  shows  the  cable  rate,  the  demand  rate,  and  the  rate  for  30-, 
60-,  and  90-day  commercial  drafts,  as  well  as  the  discount  rates 
for  commercial  paper  prevailing  in  such  markets.  In  the  case  of 
sterling  exchange  there  are  also  shown  the  factors  which  are  used 
to  determine  the  rates  respectively  for  60-  and  90-day  bills,  in- 
terest being  computed  at  the  rates  prevailing  in  the  various 
foreign  markets.  Foreign  rates  are  also  received  by  cable  at 
different  times  during  the  day.  As  these  changes  in  the  rates  are 
received,  entries  are  made  on  the  parity  sheet.  Thus  at  any  time 
during  the  day  the  parity  sheet  furnishes  a  composite  picture  of 
the  foreign  exchange  markets  of  the  world,  and  gives  also  some 
indication  of  the  tendencies  in  the  market. 

The  Cable  Rate. — The  cable  rate,  which  is,  as  has  been  ex- 
plained, the  price  of  a  cable  transfer,  expresses  most  nearly  the 
exact  market  relation  between  the  two  countries.  It  is  the 
highest  rate  on  the  sheet,  because  a  bank  selling  such  a  transfer 
does  not  have  the  use  of  the  funds  involved  for  any  appreciable 
length  of  time.  The  bank's  account  abroad  is  charged  with 
the  amount  of  the  transfer  within  a  few  hours  after  it  receives  the 
selling  price  from  the  customer.  Viewed  from  another  angle,  the 
higher  rate  for  a  cable  transfer  represents  the  premium  which 
the  purchaser  must  pay  for  the  privilege  of  retaining  the  use  of  his 
funds  up  to  the  moment  that  his  payments  fall  due  abroad.  If 
instead  of  purchasing  a  cable  he  has  bought  a  sight  draft  in  order 
to  make  his  remittance,  he  would  have  to  mail  the  draft  at  least 
ten  days  or  two  weeks  earlier,  and  he  would  not  have  the  use  of 
his  money  during  the  time  it  is  in  transit.    Another  reason  for 


XI]  HANDLING  FOREIGN  EXCHANGE  187 

waiting  until  the  last  minute  and  then  remitting  by  cable  is  that 
the  sender  may  thus  take  advantage  of  any  intervening  jSuctua- 
tions  in  the  rates  of  exchange. 

Making  the  Rates;  Sounding  the  Home  Market. — After  they 
have  studied  the  trend  of  the  exchange  markets  abroad  as  shown 
on  the  parity  sheet,  the  traders  sound  the  local  market  for  the 
latest  developments  before  they  decide  upon  a  policy  for  the  day. 
They  rely  upon  interviews  with  the  brokers  who  come  in  during 
the  early  part  of  the  morning  of  each  day  with  offers  to  buy  and 
sell,  and  also  upon  telephone  information  as  to  the  rates  quoted 
by  other  traders  in  the  market. 

Buying  and  Selling  Rate. — After  having  formed  their  opinion 
upon  the  market,  the  dealers  quote  the  rates  at  which  they  will 
trade  in  exchange.  Two  rates  are  quoted — the  buying  rate,  the 
price  which  the  bank  offers  to  pay  for  exchange,  and  the  selling 
rate,  the  price  at  which  it  will  sell.  These  rates  are  given  publicity 
either  in  response  to  telephone  calls,  or  by  making  bids  and  offers 
to  brokers,  or  by  word  of  mouth.  They  are  further  disseminated 
to  out-of-town  banks  and  exporters  by  telegraph,  and  foreign 
customers  of  the  various  banks  and  traders  receive  quotations  by 
cable.  Rates  quoted  to  the  groups  of  customers  specified  are 
what  are  known  as  "firm  rates, "  that  is,  they  are  actual  offers  to 
buy  or  sell  exchange  at  the  rates  quoted.  Besides  these  rates, 
many  rates  are  sent  out  merely  to  give  information  regarding  the 
state  of  the  market. 

Informal  Contracts  to  Buy  or  Sell. — After  these  quotations 
have  been  widely  distributed  among  the  bank's  customers,  the 
orders  for  the  purchase  or  sale  of  exchange  begin  to  come  in  from 
out-of-town  dealers  as  well  as  from  local  customers.  On  the  basis 
of  the  bids  and  offers  the  traders  make  their  contracts.  The  con- 
tract or  agreement,  however,  usually  takes  no  more  formal  shape 


1 88  BANKING  PRACTICE  [XI 

than  that  of  telegrams  or  cables  passing  between  the  two  parties, 
one  message  constituting  the  offer  and  the  other  the  acceptance. 
Agreements  are  often  made  orally,  to  be  confirmed  immediately 
afterwards  in  writing.  Because  of  this  absolute  reliance  on  the 
integrity  of  the  various  dealers,  contracts  are  entered  into  only 
with  such  parties  as  have  had  previous  dealings  with  the  bank  or 
who  have  come  properly  introduced. 

Recording  the  Formal  Contract. — When  a  contract  has  been 
completed  the  details  are  entered  upon  a  contract  slip  which  is 
initialed  by  the  trader  who  made  the  transaction,  and  entry  is 
then  made  in  a  purchase  and  sale  book.  This  book  has  a  section 
for  each  foreign  currency;  contracts  for  the  purchase  of  exchange 
are  entered  on  the  left-hand  page  and  contracts  for  the  sale  of 
exchange  on  the  right-hand  page.  Such  a  record  furnishes  a  ready 
reference  at  any  time  during  the  day  for  the  purpose  of  deter- 
mining the  volume  of  business  transacted  and,  in  connection  with 
the  "position  sheet, "  it  enables  the  bank  to  ascertain  the  state  of 
its  foreign  balances.  Each  entry  shows  the  name  of  the  contract- 
ing party,  the  kind  of  contract,  the  amount,  and  the  rate,  and 
carries  an  identifying  number  stamped  on  the  contract  slip. 

Spot  and  Future  Contracts. — The  contracts  are  either  "spot" 
or  "future."  A  future  contract  differs  from  a  spot  contract  only 
in  that  delivery  and  payment  for  the  sum  involved  is  to  take 
place  at  a  stated  future  time.  The  purchase  and  sale  of  future 
contracts  in  foreign  exchange  is  one  of  the  most  useful  phases  of 
the  bank's  work  in  facilitating  international  trade  and  finance. 
An  example  will  show  the  advantage  of  these  facilities  to  an  im- 
porter. Assume  that  a  clothing  manufacturer  imports  £10,000 
worth  of  wool  every  month  from  Australia.  To  enable  him  to 
carry  on  his  business  on  a  fixed  basis  for  the  ensuing  year,  that  is, 
to  compute  the  costs,  selling  price,  and  profits  in  advance,  he 
must  know  what  the  sterling  exchange  with  which  he  is  to  pay 


XI J  HANDLING  FOREIGN  EXCHANGE  189 

for  his  raw  material  will  cost  him.  Accordingly  he  contracts  with 
the  bank  to  buy  the  necessary  amount  of  sterling  each  month  for 
twelve  months.  If  the  state  of  the  market  is  such  that  the  ex- 
change dealers  expect  higher  rates  in  the  future,  they  will  quote 
him  a  certain  rate  for  his  January  instalment,  a  slightly  higher 
rate  for  February,  and  so  on  during  the  year.  In  any  case  he  is 
able  to  know  in  advance  what  each  monthly  shipment  for  the 
ensuing  year  will  cost  him. 

Cover  for  Future  Contracts. — The  bank,  however,  does  not 
wish  to  assume  the  risk  of  fluctuations  in  the  rate  of  exchange, 
and  therefore  it  immediately  protects  itself  by  purchasing  a 
similar  amount  of  exchange  to  be  delivered  at  the  stated  future 
intervals.  Unless  the  bank  can  enter  into  a  contract  for  the  pur- 
chase of  cover  immediately,  it  will  not  make  a  contract  for  future 
delivery.  Future  contracts  seldom  run  for  more  than  a  year; 
most  of  them,  indeed,  run  a  period  of  six  months  or  less.  The 
question  arises,  from  whom  does  the  bank  purchase  its  contract 
for  the  future  delivery  of  exchange  at  a  specified  price?  It  buys 
this  exchange  from  the  producers  who  expect  to  have  supplies  of 
exchange  to  dispose  of  from  time  to  time  in  the  future. 

It  may  be  assumed  that  an  American  exporter  has  contracted 
to  ship  foodstuffs  amounting  each  month  to  £10,000.  He  wishes 
to  know  in  advance  what  price  he  will  be  able  to  obtain  for  the 
sterling  bills  which  he  expects  to  draw  on  his  customer  each  month, 
in  order  that  he  may  act  intelligently  in  fixing  his  selling  price. 
Therefore  he  enters  into  an  agreement  with  his  bank  according 
to  which  the  latter  contracts  to  purchase  his  bills  at  a  certain 
price  for  each  month's  delivery.  As  each  instalment  of  the  con- 
tract for  the  delivery  of  exchange  matures,  the  bank  meets  its 
obligation  by  means  of  the  sterling  exchange  brought  in  by  the 
maturing  instalment  of  exchange  bought.  The  profit  of  the  bank 
consists  in  the  difference  between  the  rate  at  which  it  sells  the 
exchange  and  the  rate  at  which  it  buys  it.    Since  both  contracts 


190  BANKING  PRACTICE  [XI 

are  entered  into  at  the  same  time  and  are  based  on  the  same  rate 
of  exchange,  the  bank's  profit  is  in  no  way  affected  by  subsequent 
fluctuations  in  exchange  rates. 

Arbitrage. — Another  type  of  exchange  transaction  which 
occurs  frequently  is  that  of  arbitraging.  Since  the  foreign  ex- 
change dealers  are  in  touch  with  all  the  markets  of  the  world,  they 
frequently  see  opportunities  to  purchase  exchange  in  one  foreign 
market  and  to  sell  it  in  another  at  a  profit,  and  they  are  often 
able  to  meet  their  requirements  for  one  kind  of  foreign  currency 
through  purchases  in  an  intermediate  market  rather  than  by 
direct  purchases.  There  may  be  only  three  markets  involved  or 
there  may  be  many.  The  essence  of  an  arbitrage  transaction 
consists  in  buying  exchange  where  it  can  be  obtained  cheapest 
and  selling  it  wherever  it  will  command  the  best  price. 

Arbitrage  transactions  act  as  a  constant  force  tending  toward 
the  establishment  of  a  uniform  price  in  all  markets  for  the  ex- 
change of  a  particular  currency.  As  soon  as  rates  show  signs  of 
sagging  in  one  market  more  than  in  another,  foreign  exchange 
dealers  from  all  outside  points  enter  this  market  with  their  orders, 
and  as  a  result  of  the  increased  demand  the  rates  advance.  If,  on 
the  other  hand,  a  market  shows  signs  of  advancing  at  a  more 
rapid  pace  than  other  markets,  traders  from  the  other  markets 
seek  to  sell  at  the  advanced  prices  and  their  selling  results  in 
bringing  the  rates  back  to  the  common  level. 

Position  Sheets. — To  carry  on  its  operations  to  the  best  ad- 
vantage the  bank  must  know  positively  and  quickly,  not  only 
where  it  has  funds  available  abroad  and  the  amounts  as  of  the 
given  day,  but  also  what  the  status  of  the  balance  will  be  on 
future  dates,  as  a  result  of  deposits  and  withdrawals  which  are 
in  transit  on  the  mail  steamers,  as  well  as  of  the  future  contracts 
into  which  it  has  entered.  To  furnish  this  information  the  foreign 
exchange  department  keeps  two  "position  sheets,"  the  "sight" 


XI] 


HANDLING  FOREIGN  EXCHANGE 


191 


position  sheet  and  the  "cable"  position  sheet  (Form  17).    The 
purpose  of  the  sight  position  sheet  is  to  show  the  amount  of  the 


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bank's  balance  available  for  drawings  by  means  of  sight  drafts 
and  drafts  of  longer  maturity.    The  purpose  of  the  cable  position 


192  BANKING  PRACTICE  [XI 

sheet  is  to  show  the  balances  available  abroad  for  drawings  made 
by  cable,  together  with  the  changes  in  this  balance  which  will 
result  as  items  in  transit  reach  their  destination. 

Distribution  of  Foreign  Balances. — Both  the  sight  and  cable 
positions  are  completed  at  the  close  of  each  day  and  are  handed 
to  the  traders  in  the  morning  for  their  guidance.  Balances  that 
are  running  low  are  replenished  from  those  which  are  becoming 
excessive,  either  by  ordering  the  foreign  correspondents  which 
hold  excessive  balances  to  make  cable  transfers  to  those  with 
which  the  balances  are  low,  or  by  directing  the  remittances  of  the 
next  few  days  chiefly  toward  the  banks  in  which  balances  are  low 
and  making  the  sales  of  exchange  out  of  the  greater  balances. 
Thus  the  foreign  discount  department  may  receive  at  intervals  a 
list  of  banks  to  which  they  are  to  send  the  bills  which  have  been 
received  through  their  operations.  Similarly,  those  departments 
which  draw  drafts  in  foreign  currency  are  advised  as  to  which 
banks  they  are  to  use  for  their  drawings. 

Records  of  the  Foreign  Exchange  Department. — The  books 
and  records  of  a  foreign  exchange  department  vary  with  the 
banks  concerned,  but  they  all  have  as  their  essential  purposes: 
(i)  furnishing  information  as  to  the  amount  of  the  balances  in 
the  various  banks  on  a  given  day;  (2)  keeping  records  as  to  re- 
mittances of  various  kinds;  and  (3)  listing  future  contracts  so  as 
to  enable  the  foreign  exchange  department  to  determine  what  it 
is  likely  to  have  available  at  specified  future  dates. 


CHAPTER  XII 
ACCUMULATING  EXCHANGE 

Sources  of  Supply  of  Exchange. — The  previous  chapter  has 
described  the  machinery  which  is  organized  by  banks  for  the 
purpose  of  handling  transactions  in  foreign  exchange.  The  func- 
tion of  that  machinery  is  to  accumulate  deposit  balances  with  its 
foreign  correspondent  and  to  sell  these  balances.  Or,  expressed 
in  the  usual  terms,  it  is  to  accumulate  and  sell  exchange.  In  this 
and  the  succeeding  chapter  the  first  phase  of  this  activity,  and  the 
ultimate  sources  of  the  supply  of  exchange — which  are  four  in 
number — are  considered. 

1.  Exports. — The  most  important  contributions  to  the  supply 
of  exchange  come  from  the  exports.  In  most  cases  when  the 
American  exporter  ships  merchandise  he  draws  a  draft  on  the 
foreign  buyer,  attaches  it  to  the  shipping  documents,  and  sends 
it  to  his  banker  for  collection  and  credit.  If  the  seller  of  the  goods 
draws  a  sterling  draft  he  must  sell  that  draft  in  order  to  obtain 
American  money.  Hence  the  drafts  drawn  in  settlement  of  the 
exportation  of  goods  increase  the  supply  of  exchange  by  the 
amount  of  the  shipment.  Heavy  exports  to  a  given  country 
result  in  increasing  the  supply  of  exchange  on  that  country. 
Bankers  and  others  who  desire  to  obtain  exchange  are  thus  able 
to  procure  it  at  a  relatively  low  price  because  large  numbers  of 
exporters  offer  such  bills  for  sale. 

2.  The  Sale  of  Securities. — The  second  source  of  supply  is 
connected  with  the  sale  of  securities.  Before  the  war,  European 
countries  invested  heavily  in  American  stocks  and  bonds.  Pur- 
chases of  stocks  and  bonds  have  the  same  effect  on  the  supply  of 

13  193 


194  BANKING  PRACTICE  [XII 

exchange  as  have  purchases  of  goods.  The  American  seller  of  the 
securities  is  paid  his  money  in  this  country  usually  by  drawing  a 
draft  on  the  foreign  buyer  and  by  selling  this  to  an  exchange 
dealer,  just  as  the  exporter  of  other  commodities  disposes  of  his 
drafts. 

3.  Borrowing  Abroad. — The  third  source  of  exchange  supply 
is  derived  from  foreign  loans  and  finance  bills.  Loanable  funds 
constantly  flow  from  one  financial  center  to  another  in  order  to 
take  advantage  of  the  highest  rates  of  interest  prevailing.  When 
an  American  banker  draws  on  his  London  correspondent  for  the 
purpose  of  obtaining  funds  from  the  English  money  market  to 
lend  in  the  New  York  market  at  the  higher  rate  prevailing,  he 
obtains  the  funds  usually  by  drawing  a  steriing  draft  on  his  Eng- 
lish correspondent  and  by  selling  this  to  exchange  dealers  in  the 
New  York  market.  These  loans  are  very  numerous,  and  from 
time  to  time  as  they  are  negotiated  they  add  to  the  stock  of  ex- 
change available.  It  should  be  noted,  however,  that  these  loans 
provide  a  supply  of  exchange  only  temporarily.  When  the  loans 
mature  in  60  or  90  days  they  must  be  paid  off.  In  order  to  pay 
them,  the  American  agent  goes  into  the  exchange  market  and 
buys  a  bill  on  the  foreign  market  from  some  other  exchange  dealer 
who  possesses  a  balance.  This  repayment  of  the  loan  then  serves 
to  reduce  the  supply  of  exchange  at  such  time. 

4.  Gold  Shipments. ^The  fourth  main  source  of  exchange  is 
found  in  connection  with  gold  shipments.  Obviously,  if  a  banker 
ships  a  quantity  of  gold  to  his  foreign  correspondent  and  receives 
credit  for  the  shipment,  he  has  obtained  a  supply  of  exchange 
which  is  available  for  sale  in  the  market. 

Banking  Operations  in  the  Accumulation  of  Exchange. — All 

exchange  bought  or  sold  arises  from  one  of  these  sources.  How- 
ever, the  immediate  and  visible  form  in  which  the  foreign  ex- 


XII]  ACCUMULATING  EXCHANGE  195 

change  department  of  a  bank  obtains  the  funds  with  which  it 
builds  up  its  foreign  balances  for  exchange  purposes,  is  the  sub- 
ject to  be  considered  here. 

The  items  which  go  to  swell  these  balances  and  which  actually 
come  into  the  possession  of  the  bank  consist  of  negotiable  instru- 
ments of  various  kinds  representing  the  transactions  which  have 
been  described. 

In  considering  the  banking  operations  in  connection  with 
foreign  exchange  it  is  desirable  to  know  how  the  bank  increases 
its  individual  stock  of  exchange.  There  are  three  main  ways  in 
which  its  foreign  balances  are  built  up:  (i)  through  export  for- 
eign collections;  (2)  through  foreign  discounts;  and  (3)  through 
export  commercial  credits.  The  first  two  classes  are  taken  up  in 
this  chapter,  and  the  third,  commercial  credits,  in  Chapter  XIII. 

Foreign  Collections — Export. — The  term  "foreign collections" 
as  used  in  banking  includes  two  classes  of  items:  those  which  are 
payable  abroad,  and  those  which  are  payable  in  this  country  but 
which  are  received  for  the  account  of  foreign  customers  of  the 
collecting  bank.  The  first  group  of  these  may  be  termed  the 
"outgoing  or  export"  collections,  while  the  second  group  are 
"incoming  or  import"  collections.  The  terms  "export"  and 
"import"  as  thus  used  must  not  be  confused  with  "exports"  and 
"imports"  of  merchandise.  While  the  large  majority  of  export 
collections  arise  from  exports  of  merchandise,  and  similarly  the 
majority  of  import  collections  arise  in  connection  with  the  im- 
portation of  goods,  the  terms  "export"  and  "import"  refer  to  the 
direction  in  which  the  items  themselves  are  headed  through  the 
collection  process  rather  than  to  the  type  of  transaction  which 
originated  them. 

The  foreign  collection  service  of  a  bank  meets  three  needs  of 
the  business  world:  (i)  it  facilitates  trade  and  exchange;  (2)  it 
bridges  the  distance  between  foreign  and  domestic  traders  by 
placing  local  funds  at  the  disposal  of  the  creditor  in  exchange  for 


196  BANKING  PRACTICE  [XII 

distant  funds;  and  (3)  it  converts  money  of  one  kind  into  another, 
e.g.,  pounds  sterling  arc  converted  into  United  States  money,  and 
vice  versa 

The  foreign  collection  work  of  those  banks  which  possess 
numerous  foreign  correspondents  is  very  heavy  because  the  busi- 
ness which  arises  in  all  the  banks  throughout  the  country  is  usu- 
ally sent  to  these  main  foreign  exchange  banks.  Furthermore, 
the  large  exporters  and  importers  throughout  the  country  make 
use  of  the  collection  facilities  of  the  relatively  small  number  of 
banks  which  possess  adequate  machinery.  In  the  case  of  import 
collections  a  similar  volume  of  business  arises  in  foreign  countries 
and  is  forwarded  to  the  main  collecting  banks  in  the  United 
States. 

Nature  of  Foreign  Collection  Items. — The  specific  items  which 
enter  into  the  foreign  collection  business  consist  chiefly  of  drafts 
or  bills  of  exchange.  But  there  are  also  other  instruments  such 
as  checks,  money  orders,  coupons,  matured  bonds,  coupon  checks, 
certificates  of  deposit,  drafts  on  savings  banks  accompanied  by 
bank-books,  and  travelers'  checks.  These  items  arise  in  connec- 
tion with  transactions  growing  out  of  foreign  trade,  payments  for 
insurance  and  freight,  the  purchase  and  sale  of  securities,  bankers' 
loans  made  to  each  other,  remittances  by  immigrants  to  persons 
in  the  home  country,  and  expenses  of  travelers. 

Transactions  which  Give  Rise  to  Collections.— One  use  of  the 

draft  which  gives  rise  to  a  large  amount  of  foreign  collection  work 
is  that  of  settling  accounts  and  transferring  funds.  If  a  creditor 
in  the  United  States  desires  to  collect  a  bill  from  a  foreign  debtor, 
the  usual  method  of  settlement  is  for  the  creditor  to  draw  a  draft 
upon  the  debtor.  This  draft  is  then  deposited  with  the  drawer's 
bank  for  collection.  A  similar  use  of  the  draft  occurs  in  cases 
where  one  concern  wishes  to  remit  money  to  another.  Foreign 
organizations,  such  as  insurance  companies,  desiring  to  remit  to 


XII]  ACCUMULATING  EXCHANGE  197 

their  branch  offices  in  the  United  States,  very  frequently  instruct 
the  local  concern  which  is  to  receive  the  funds  to  draw  a  draft 
upon  the  home  office  for  the  amount.  This  draft  is  deposited  for 
collection.  Another  occasion  for  depositing  a  foreign  draft  for 
collection  occurs  in  connection  with  the  shipment  of  goods  on  a 
collect-on-delivery  basis.  This  transaction  is  identical  with  those 
domestic  transactions  which  consist  of  shipping  merchandise 
under  an  order  bill  of  lading  attached  to  the  draft.  One  of  the 
most  common  methods  of  financing  foreign  trade  is  by  means  of 
the  documentary  draft.  Such  drafts  with  their  documents  are 
also  deposited  with  the  bank  for  collection. 

Distinction  between  Foreign  Collections  and  Discounts. — 
The  foreign  items  just  mentioned  are  handled  either  on  a  collec- 
tion basis  or  on  a  discount  basis.  The  process  of  handling  items 
on  a  collection  basis  is  very  similar  in  foreign  business  to  the 
domestic  collection  business  of  the  bank.  The  bank  acts  merely 
as  the  agent  of  its  customer  and  places  the  proceeds  at  the  dis- 
posal of  the  customer  only  when  payment  has  been  obtained.  In 
accepting  items  on  a  discount  basis  the  bank  purchases  the  foreign 
item  from  the  owner.  The  customer  is  given  a  part  of  the  whole 
of  the  face  amount  of  the  item  less  interest  for  the  time  which  will 
be  required  by  the  bank  to  collect  it.  The  manner  in  which  these 
discounts  are  handled  is  discussed  later  in  this  chapter. 

The  Work  of  Export  Collections. — In  this  discussion  the  work 
of  effecting  export  collections  is  considered  since  it  is  through 
these  that  a  bank  accumulates  exchange.  When  a  bank  collects 
an  export  item,  that  is,  an  item  payable  abroad,  it  increases  there- 
by the  amount  of  its  balances  in  foreign  banks.  The  work  of 
making  export  collections  may  conveniently  be  considered  in  two 
parts:  the  handling  of  the  collection  items  themselves,  and  the 
settlement  with  the  customer  for  the  proceeds  of  the  items  when 
collection  has  been  accomplished. 


198  BANKING  PRACTICE  [XII 

Items  are  received  by  the  export  foreign  collection  clerks  both 
over  the  window  and  by  mail.  They  may  originate  in  the  United 
States  or  in  some  foreign  country,  the  essential  characteristic 
being  merely  that  the  items  are  payable  in  some  foreign  country. 
An  item  received  for  collection  is  accompanied  by  a  letter  of  in- 
struction, and  frequently  consists  of  a  draft  with  documents 
attached.  The  receiving  clerks  examine  the  items  and  make  a 
record  of  them,  together  with  instructions  of  the  owner  as  to  the 
procedure  to  be  followed  in  their  collection  and  in  their  disposi- 
tion in  case  they  are  not  paid.  The  documents  are  then  prepared 
for  transmittal  to  the  foreign  correspondent  of  the  bank.  The 
correspondent  is  given  instructions  as  to  how  the  items  are  to  be 
handled.  Duplicates  of  the  letters  of  transmittal  are  prepared 
by  the  bank,  and  duplicates  of  the  drafts  and  documents  by  the 
owner;  and  these  duplicates  and  the  originals  are  forwarded  to  the 
bank's  foreign  correspondent  by  separate  steamers. 

The  receipt  of  these  items  is  acknowledged  by  the  foreign 
collection  agent,  and  if  the  item  be  a  time  draft  the  American 
bank  is  advised  when  acceptance  has  been  obtained.  The  local 
bank,  in  turn,  advises  its  customer  of  the  acceptance.  A  record 
is  made  of  these  advices  so  that  the  American  bank  may  know 
when  the  funds  called  for  by  the  collection  item  have  become 
available.  If  the  items  are  not  paid  when  due,  the  bank  com- 
municates with  the  collecting  agent  abroad  in  the  endeavor  to 
hasten  collection. 

Settlement  between  Banks  upon  Payment. — When  payment 
of  items  has  been  obtained  by  the  foreign  correspondent,  the  two 
banks  who  are  parties  to  the  transaction  make  a  settlement  be- 
tween themselves.  Such  settlements  are  made  according  to  agree- 
ment in  one  of  three  ways.  The  foreign  bank  may  request  the 
American  bank  to  debit  its  deposit  account  for  the  given  amount; 
or,  if  the  American  bank  maintains  a  balance  with  it,  the  collect- 
ing agent  may  credit  the  proceeds  to  the  account  of  the  American 


XII]  ACCUMULATING  EXCHANGE  199 

bank;  or  again,  the  foreign  bank  may  buy  a  draft  on  New  York 
for  the  amount  of  the  item  and  send  the  instrument  in  settlement. 
If  an  item  remains  unpaid  in  spite  of  all  efforts  to  obtain  payment, 
it  is  usually  protested  and  returned  to  the  American  bank  with 
reasons  for  non-payment  stated.  Contrary  to  the  custom  which 
prevails  in  handling  domestic  collections  according  to  which 
banks  do  not  charge  for  their  services  if  payment  is  not  obtained, 
it  is  the  custom  in  making  foreign  collections  to  charge  for  such 
services  whether  or  not  payment  is  effected. 

Settlement  with  the  Owner  of  the  Items. — When  payment 
has  been  made  and  the  transfer  of  funds  has  been  effected  from 
the  foreign  bank  to  the  American  bank  by  one  of  the  methods 
described,  the  American  bank  settles  with  the  owner  of  the  collec- 
tion item  by  crediting  his  account  or  by  sending  a  cashier's  check 
for  the  proceeds.  This  procedure  sometimes  involves  the  con- 
version of  foreign  money  into  domestic  currency.  Some  of  the 
items  may  have  been  drawn  in  terms  of  foreign  money  and  there- 
fore will  have  been  credited  on  the  books  of  the  foreign  bank  in 
terms  of  such  foreign  currency  rather  than  in  dollars.  The  rate 
at  which  such  money  is  to  be  converted  at  the  time  is  obtained 
from  the  foreign  exchange  traders  of  the  bank,  and  the  bank  then 
converts  the  foreign  currency  into  dollars  at  this  rate  and  pays 
the  local  owner  of  the  item  in  dollars. 

Making  Payment  for  Collections  by  Cable. ^ — When  the  cus- 
tomer of  the  bank  desires  an  especially  rapid  collection  service, 
there  are  several  methods  of  handling  collections  by  cable  which 
may  be  used.  The  first  of  these  is  the  cable  payment  method. 
Under  such  arrangement  the  foreign  bank  advises  the  American 
bank  by  cable  that  collection  has  been  effected  and  that  the  pro- 
ceeds are  being  forwarded  by  mail,  in  the  case  of  dollar  drafts,  or 
that  they  have  been  placed  to  the  credit  of  the  American  bank  if 
drawn  in  foreign  currency.    Upon  receipt  of  this  cable  the  Ameri- 


200  BANKING  PRACTICE  [  XII 

can  bank  advises  the  owner  that  his  items  have  been  paid.  He  is 
thus  immediately  assured  that  the  items  have  been  paid  and  that 
he  can  continue  to  make  further  shipments  to  the  foreign  buyer 
without  danger  of  extending  too  large  an  amount  of  credit. 
Furthermore,  if  the  draft  is  drawn  in  dollars,  the  owner  may  dis- 
count it  with  the  foreign  discount  department  on  the  strength  of 
the  cable  announcing  payment.  If  payment  has  been  made  in 
foreign  currency  the  traders  furnish  a  quotation  at  which  the 
bank  will  immediately  purchase  the  item.  In  either  case  the 
owner  may  obtain  his  funds  almost  immediately  upon  the  receipt 
of  the  cable  announcing  payment  of  the  collection  item. 

Cable  Proceeds  Method;  Cable  Transfer  Method. — The 
second  and  third  methods  for  securing  immediate  payment  are 
the  cable  proceeds  method  and  the  cable  transfer  method.  These 
methods  are  identical  except  that  under  the  cable  proceeds 
method  the  owner  pays  the  cost  of  sending  the  funds,  while  under 
the  cable  transfer  method  the  drawee  or  debtor  pays  costs.  In 
making  collection  on  the  cable  proceeds  basis  the  foreign  bank 
collects  from  the  drawee  in  the  usual  way,  that  is,  it  collects  at  the 
sight  rate  of  exchange  on  New  York.  It  then  deducts  from  the 
amount  collected  the  difference  between  the  sight  and  cable  rate, 
and  cables  the  American  bank  to  make  payment  to  the  owner  for 
the  amount  so  obtained.  This  method  virtually  amounts  to  dis- 
counting the  collection  item  for  the  number  of  days  the  fund 
would  normally  be  in  transit  from  the  city  of  the  drawee  to  that 
of  the  drawer. 

If  the  proceeds  are  to  be  sent  by  the  cable  transfer  method, 
the  drawee  of  the  draft  agrees  to  pay  the  amount  of  the  draft,  at 
the  cable  rate  for  exchange  on  New  York  which  prevails  in  his 
city  at  the  time  of  collection.  In  other  words,  he  pays  the  draft 
by  purchasing  a  cable  transfer  from  the  foreign  collecting  bank. 
When  this  transfer  reaches  the  United  States,  the  local  bank  pays 
the  owner  the  face  of  the  item  less  the  usual  collection  charges; 


XII]  ACCUMULATING  EXCHANGE  201 

i.e.,  the  owner  is  under  no  additional  expense  by  reason  of  the 
fact  that  the  funds  were  sent  by  cable. 

Foreign  Discounts  Increase  Supply  of  Exchange. — The  second 
class  of  items  referred  to  on  page  195,  which  banks  obtain  and  use 
for  the  up-building  of  balances  abroad  against  which  they  can  sell 
exchange,  is  composed  of  those  transactions  which  are  termed 
"foreign  discounts."  A  foreign  discount  is  in  all  essentials  the 
counterpart  of  the  domestic  discount.  It  is  an  advance  of  funds 
made  by  the  bank  to  the  owners  of  bills  which  are  payable  some 
time  in  the  future  in  foreign  countries.  These  bills  are  sent  abroad 
to  the  correspondents  of  the  American  bank,  and  when  collected 
the  proceeds  are  credited  to  the  account  of  the  American  bank, 
thus  increasing  its  supply  of  foreign  exchange.  Since  the  ad- 
vance made  by  the  bank  is  a  credit  transaction,  it  involves  a 
procedure  very  similar  to  the  handling  of  domestic  discounts 
described  in  Chapters  XVII  and  XVIII. 

Discounts  in  United  States  and  Foreign  Currency. — A  pecu- 
liarity of  foreign  discounts  is  that  they  may  be  drawn  either  in 
dollars  or  in  some  foreign  currency.  If  the  discount  is  drawn  in 
foreign  currency,  it  is  purchased  by  the  bank  at  a  flat  rate  of 
exchange  and  the  transaction  is  spoken  of  as  a  purchase  of  foreign 
exchange.  If,  however,  it  is  drawn  in  dollars,  it  is  discounted  at 
a  given  rate  and  the  transaction  is  called  a  discount.  There  is  no 
difference  in  principle  between  purchasing  a  foreign  bill  at  a  flat 
rate  of  exchange  and  discounting  a  bill  drawn  in  United  States 
currency,  for  the  flat  rate  of  exchange  is  determined  by  taking 
into  account  the  length  of  time  the  bill  has  to  run  and  the  dis- 
count rate  for  such  period. 

The  Two  Phases  of  Foreign  Discount  Work. — The  work  of 
handling  foreign  discounts  may  be  divided  into  two  phases:  (i) 
passing  upon  bills  offered  for  discount,  settling  with  the  owner  of 


202  BANKING  PRACTICE  [XII 

those  approved,  and  forwarding  the  items  for  collection;  and  (2) 
attending  to  settlements  between  the  bank  and  its  foreign  corre- 
spondents Inasmuch  as  a  considerable  part  of  the  period  that  an 
item  has  to  run  is  consumed  in  its  transmission  to  the  point  of 
payment,  the  discounting  bank  does  not  hold  the  items  in  its 
possession  as  in  the  case  of  domestic  discounts,  but  forwards  them 
immediately  to  the  collecting  agent  abroad. 

When  a  bill  is  submitted  for  discount  the  bank  makes  a 
complete  record  of  the  instrument  with  the  instructions  of  the 
customer  as  to  whether  he  desires  it  to  be  protested  in  case  of 
non-payment.  Since  the  bank  relies  for  the  payment  of  the  item 
ultimately  upon  its  customer,  the  most  important  consideration 
preliminary  to  discounting  the  bill  is  the  credit  rating  of  the 
customer.  Persons  who  expect  to  borrow  regularly  on  foreign 
discounts  usually  receive  lines  of  credit  which  apply  exclusively 
to  such  discounts.  When  an  offering  has  been  received  by  the 
bank  from  such  a  customer,  his  liability  account  is  consulted  to 
ascertain  if  the  unused  portion  of  his  line  of  credit  is  sufficient  to 
care  for  the  accommodation  asked  for.  If  the  line  of  credit  ar- 
ranged for  is  exhausted  by  discounts  still  outstanding,  or  if  the 
customer  is  one  for  whom  no  line  of  credit  has  been  established, 
the  usual  application  must  be  made  for  a  new  line  of  credit. 

Discounts  Accompanied  by  Documents. — The  credit  rating  of 
the  borrower  is  frequently  supplemented,  in  the  case  of  foreign 
discounts,  by  the  documents  which  are  to  accompany  the  bill. 
These  documents  convey  the  title  to  the  commodities  shipped 
and,  therefore,  so  long  as  they  remain  in  the  hands  of  the  bank  or 
its  agent  they  afford  additional  protection  for  the  advance  made. 
The  bank,  once  it  has  accepted  a  bill  for  discount,  becomes  in 
reality  the  purchaser  of  the  bill.  It  is  therefore  of  importance  to 
the  bank  to  see  that  the  bill  itself  and  the  documents  are  in  proper 
form  so  that  no  formal  or  technical  difficulties  will  interfere  with 
payment. 


XII]  ACCUMULATING  EXCHANGE  203 

Examination  of  Documents. — The  examination  of  the  docu- 
ments requires  a  scrutiny  of  the  draft  itself  to  see  that  it  is  prop- 
erly drawn  and  signed;  that  the  date,  the  filling,  and  the  amount 
are  in  order;  and  that  the  amount  agrees  with  that  given  in  the 
invoice.  It  must  also  be  noted  whether  any  changes  which  have 
been  added  to  the  invoice  amount  to  make  up  the  face  of  the  draft 
are  adequately  explained.  The  merchandise  invoice  is  then 
compared  with  the  bill  of  lading  to  see  that  the  mark  and  de- 
scription of  the  merchandise  agree.  The  bill  of  lading  is  examined 
to  determine  whether  the  full  number  of  copies  certified  as  having 
been  drawn  up  by  the  steamship  company  are  present.  This  is  an 
important  consideration,  since  a  missing  document  which  con- 
veyed title  to  the  goods  might  subject  the  bank  to  the  possibility 
of  loss  if  it  should  fall  into  the  hands  of  an  unscrupulous  person. 
The  bills  of  lading  are  examined  also  to  see  that  they  properly 
describe  the  merchandise  and  that  they  are  satisfactorily  indorsed 
to  the  bank.  Insurance  certificates  are  examined  to  see  that 
the  goods  are  properly  protected  against  damage  and  loss  in 
transit.  If  any  defect  in  any  of  these  documents  is  discov- 
ered, the  bank  communicates  with  the  customer  and  has  the 
necessary  corrections  made  before  its  proceeds  further  with  the 
transaction. 

Settlement  with  Owner.— If  the  foreign  bill  is  approved  and 
the  documents  are  all  found  satisfactory,  settlement  is  made 
with  the  owner  either  by  discount  or  purchase  or  by  a  loan  based 
upon  the  collection  item.  In  making  a  straight  discount  or  pur- 
chase, the  bank  pays  the  proceeds  to  the  customer  at  the  time  the 
transaction  is  negotiated,  just  as  it  does  in  the  case  of  a  domestic 
discount.  If  the  item  itself  is  not  discounted  but  an  advance  is 
made  against  its  collection,  there  are  two  methods  of  settlement. 
One  method  is  known  as  a  net  settlement;  the  other  a  "  subject  to 
adjustment"  settlement. 

If  the  net  settlement  is  used,  the  bank  advances  to  the  cus- 


204  BANKING  PRACTICE  [XII 

tomer  the  face  of  the  bill  and  collects  from  the  foreign  debtor  this 
amount  plus  all  charges;  or  sometimes  it  collects  the  charges 
from  the  local  customer  upon  the  receipt  of  the  advice  of  payment 
from  abroad.  The  ''subject  to  adjustment"  settlement  is  made 
on  a  part-payment  basis.  In  such  case  the  bank  advances  to 
the  customer  a  portion  of  the  face  amount  of  the  item,  with  the 
understanding  that  after  the  funds  have  been  collected  from  the 
foreign  debtor  the  bank  will  settle  with  the  local  customer  by 
deducting  its  charges  and  transferring  to  him  the  remainder  of 
the  amount. 

The  Conversion  Rate  on  a  Foreign  Discount.— In  the  deter- 
mination of  the  rate  at  which  the  foreign  items  will  be  discounted, 
several  separate  charges  are  taken  into  account.  As  has  been 
noticed,  those  bills  which  are  drawn  in  terms  of  foreign  currency 
are  purchased  as  foreign  exchange,  while  the  bills  drawn  in  dollars 
are  discounted.  The  rate  at  which  conversion  is  made  when 
foreign  currency  bills  are  purchased  is  determined  by  the  foreign 
exchange  dealers  of  the  bank.  The  rate  consists  of  a  basic 
exchange  rate  determined  by  the  state  of  the  foreign  exchange 
market,  and  in  addition  the  expenses  of  the  bank  for  interest, 
commission,  and  bill  stamps  are  allowed  for.  For  example,  if  a 
customer  offers  for  discount  a  £5,000  90-day  draft  on  London 
and  the  traders  quote  a  conversion  rate  of  4.69,  the  proceeds  pay- 
able to  the  customer  would  be  the  product  of  £5,000  multiphed 
by  4.69,  or  $23,450. 

How  the  Discount  Rate  Is  Determined. — In  ascertaining  the 
discount  rate  four  charges  have  to  be  considered : 

1.  The  current  rate  of  interest  for  the  time  the  bank  expects 

to  be  deprived  of  the  funds. 

2.  The  bank's  commission — usually  3^  per  cent  for  collect- 

ing the  item. 

3.  The  commission  charged  by  the  foreign  correspondent 

bank. 


XII]  ACCUMULATING  EXCHANGE  20$ 

4.  The  charge  for  bill  stamps  as  determined  by  the  revenue 
laws  of  the  country  of  destination. 

The  above  four  items  are  combined  into  one  rate  at  which 
discount  is  made  from  the  face  of  the  item. 

Payment  of  Discount  Charges. — Discount  charges,  while 
usually  borne  by  the  owner,  are  sometimes  assumed  by  the 
drawee.  No  definite  rule  prevails  in  the  matter,  the  procedure 
depending  upon  agreement  between  the  drawer  and  the  drawee. 
If  the  agreement  provides  that  the  drawee  is  to  bear  all  charges 
for  interest  and  commissions,  the  better  procedure  is  for  the 
drawer  to  include  such  charges  in  his  merchandise  invoice  and  to 
draw  the  draft  for  the  full  amount.  If  the  charges  are  not  in- 
cluded in  the  invoice  and  the  drawee  is  expected  to  bear  the  cost, 
the  bank  adds  them  to  the  face  of  the  draft. 

Difhculties  sometimes  arise  in  this  connection,  however, 
because  of  misunderstanding  between  the  drawer  and  drawee, 
and  this  misunderstanding  may  result  in  preventing  the  drawee 
from  accepting  and  paying  the  item;  whereas,  if  the  collecting 
agent  were  expected  to  collect  only  the  original  amount  on  the 
face  of  the  draft,  collection  could  be  effected.  In  many  countries 
collecting  banks  are  required  to  accept  payment  for  the  original 
amount  if  the  drawee  is  willing  to  settle  on  this  basis.  However, 
satisfactory  service  to  its  customer  demands  that  a  bank  collect 
the  charges  as  well,  and  hence  there  is  always  the  possibility 
of  misunderstanding  in  connection  with  items  drawn  in  this 
manner. 

Discounted  Items  Forwarded  for  Collection. — After  the  bank 
has  settled  with  its  local  customer,  it  sends  the  item  with  docu- 
ments, if  any,  to  its  foreign  correspondent  for  collection.  The 
procedure  is  very  much  the  same  as  described  in  connection  with 
foreign  export  collections.  The  purpose  is  to  convert  these  for- 
eign bills  of  various  kinds  into  actual  funds  available  to  the  bank 


206  BANKING  PRACTICE  [XII 

as  a  foreign  balance  for  the  sale  of  exchange.  Since  the  bank  is  the 
owner  of  the  discounted  items  and  may  use  the  proceeds  as  it  sees 
fit,  it  may  convert  the  item  from  one  currency  to  another  before 
sending  it  on  for  collection;  and  it  may  forward  the  item  for 
collection  and  remittance,  for  collection  and  credit,  or  deposit, 
or  for  discount  and  credit. 

Drafts  drawn  in  foreign  currency  are  transmitted  to  foreign 
correspondents  to  be  credited  to  the  foreign  currency  account  of 
the  American  bank.  Items  drawn  in  pounds  sterling  upon  per- 
sons located  in  the  British  colonies  are  generally  rediscounled  in 
the  London  market.  The  original  items  are  se^t  to  the  British 
branch  bank  located  in  the  colonial  city  of  which  the  drawee  is  a 
resident.  The  duplicate  draft  and  documents  are  forwarded  to 
the  London  office  of  the  bank  to  which  the  original  has  been  sent, 
with  information  in  each  case  that  similar  papers  have  been  sent 
to  the  other  office.  In  this  manner  the  account  of  the  American 
bank  with  the  London  correspondent  receives  immediate  credit 
for  the  face  of  the  remittance,  because  the  draft  is  made  payable 
at  the  current  rate  for  negotiating  in  London  bills  that  are 
drawn  on  the  colonies,  together  with  all  charges.  The  Ameri- 
can bank  is  therefore  out  of  funds  merely  during  the  time  re- 
quired for  the  voyage  to  London  and  the  drawee  meets  all 
charges. 

Handling  Foreign  Currency  Items. — Bills  drawn  in  francs, 
guilders,  and  marks  on  persons  located  in  the  colonial  territories 
of  France,  Holland,  and  Germany  are  handled  in  the  same  way 
as  those  drawn  in  sterling  on  persons  located  in  London.  The 
original  drafts  and  documents  are  forwarded  direct  to  the  collect- 
ing banks  in  the  colonies,  while  the  duplicate  drafts  are  redis- 
counted  in  Paris,  Amsterdam,  or  Berlin.  Sterling  drafts,  whether 
clean  or  documentary,  are  sent  to  the  London  correspondent  of 
the  American  bank  with  instructions  either  that  they  be  dis- 
counted immediately  in  the  London  market  and  the  proceeds 


XII  ]  ACCUMULATING  EXCHANGE  207 

placed  to  the  credit  of  the  American  bank,  or  that  they  be  held 
until  such  time  as  the  American  bank  requests  that  they  be  dis- 
counted. Items  held  pending  instructions  as  to  rediscount  are 
said  to  be  held  in  ''depot"  account. 

Negotiation  of  Dollar  Items. — Dollar  items  may  be  handled 
in  one  of  two  ways:  either  they  may  be  converted  immediately 
into  foreign  currency  at  the  prevailing  rates;  or  they  may  be  for- 
warded for  collection  with  the  request  that  dohars  be  remitted 
from  abroad.  Bills  drawn  on  Australia  and  British  colonies  of 
the  Far  East  are  converted,  regardless  of  the  length  of  time  they 
have  to  run,  into  sterling  at  the  prevailing  check  rate  on  London. 
There  is  a  market  in  London  for  bills  drawn  on  English  colonies 
and  especially  for  those  drawn  on  Australia.  Accordingly,  a  bill 
running  for  a  given  time  will  be  bought  and  sold  at  a  rate  of  ex- 
change which  takes  account  of  the  length  of  time  the  London  bank 
will  be  without  funds.  In  Australia,  furthermore,  London  ex- 
change is  more  readily  obtainable  than  New  York  exchange,  and 
the  premium  to  be  paid  for  these  two  classes  of  money  varies 
accordingly.  Barring  violent  fluctuations,  the  Australians  in- 
variably prefer  to  settle  their  bills  in  sterling.  To  the  American 
drawer  it  makes  little  difference  whether  the  drawee  pays  in 
dollars  or  sterling.  His  domestic  bank  can  very  readily  convert 
sterling  into  dollars  for  him,  since  there  is  a  wide  market  for 
sterling  exchange  in  New  York. 

Dollar  Items  Payable  at  Selling  Rate  for  Sight  Drafts.— All 

dollar  items  drawn  on  points  other  than  the  British  colonies  are 
payable  at  the  collecting  bank's  selling  rate  for  sight  drafts  on 
New  York.  This  means  that  the  drawee  is  obliged  to  pay  to  the 
collecting  bank  the  same  number  of  pesos,  francs,  lire,  or  sterling 
as  he  would  be  obliged  to  pay  if  he  himself  purchased  a  dollar 
draft  on  New  York  for  the  full  amount  of  the  bill  drawn  against 
him.    This  requirement  is  important  in  handling  items  payable 


208  BANKING  PRACTICE  [XII 

in  countries  where  the  United  States  dollar  passes  as  legal  tender, 
e.g.,  Cuba,  Porto  Rico,  Panama,  and  Santo  Domingo.  If  such 
instructions  were  not  transmitted  with  the  draft,  the  drawee 
might  offer  in  settlement  of  the  bill  against  him  actual  United 
States  currency  to  the  amount  of  the  draft.  In  this  event  the 
collecting  bank  would  have  to  bear  whatever  expense  and  loss  of 
interest  might  be  incurred  in  connection  with  transmitting  the 
dollars  thus  collected  to  New  York.  The  collecting  bank  would 
not  be  satisfied  to  hold  the  dollars  so  received  in  its  vault,  and  to 
instruct  the  New  York  bank  to  debit  its  dollar  account  carried  in 
New  York,  inasmuch  as  the  collecting  bank  is  always  able  to  sell 
at  a  premium  its  dollar  balances  carried  with  the  New  York 
bank. 

Settlement  between  Banks. — When  the  foreign  items  have 
been  collected,  there  remains  the  problem  of  settlement  by  the 
collecting  bank  and  the  bank  which  originally  discounted  the 
item.  In  choosing  its  collecting  agents,  the  American  bank  natur- 
ally favors  those  institutions  which  carry  dollar  accounts  with  it. 
Settlement  then  can  be  made  merely  by  crediting  the  proceeds  of 
collections  to  its  account  abroad,  or  by  debiting  the  dollar  ac- 
count which  the  foreign  correspondent  keeps  in  the  American 
bank.  Sometimes,  however,  it  is  necessary  to  send  items  for 
collection  to  institutions  which  have  no  accounts  with  the  Ameri- 
can bank.  In  such  event  the  collecting  bank  may  remit  in  settle- 
ment an  approved  bankers'  check  on  New  York  for  the  required 
amount  • 

Treatment  of  Dishonored  Items. — Discount  items  forwarded 
for  collection  are  sometimes  dishonored  at  maturity  because  of 
some  misunderstanding  arising  between  the  drawer  and  the 
drawee.  The  collecting  agent,  through  communication  with  the 
discounting  bank,  seeks  to  make  satisfactory  arrangement  so  that 
the  item  may  be  paid.    If  this  proves  impracticable,  the  customer 


XII]  ACCUMULATING  EXCHANGE  209 

who  discounted  the  item  is  required  to  reimburse  the  bank  for  the 
amount  advanced  him  plus  all  charges.  If  the  original  owner  of 
the  item  still  desires  the  American  bank  to  attempt  to  obtain  the 
funds,  the  item  may  be  accepted  on  a  collection  basis  and  further 
effort  is  made  to  obtain  payment. 


^ 


CHAPTER    XIII 

ACCUMULATING  EXCHANGE  THROUGH 
COMMERCIAL  CREDITS 

Commercial  Credits  Defined. — The  third  method  (see  page 
195)  by  which  a  bank  increases  its  balance  in  foreign  financial 
centers  is  by  its  dealings  in  export  commercial  credits.  For  those 
banks  which  have  extensive  international  connections  commercial 
credits  represent  one  of  the  most  important  forms  of  bank  credit. 

A  commercial  credit,  or  a  commercial  letter  of  credit,  may  be 
defined  as  an  instrument  drawn  by  a  bank  in  behalf  of  one  of  its 
customers,  authorizing  another  bank  to  make  payments  or 
accept  drafts  for  a  fourth  party  when  the  last-named  party  has 
complied  with  certain  stipulated  conditions.  While  commercial 
credits  may  be  used  at  times  in  all  transactions  involving  trans- 
fers of  funds  in  both  domestic  and  foreign  business,  by  far  their 
most  important  use  is  in  financing  imports  and  exports  of  com- 
modities. 

A  Typical  Commercial  Credit  Transaction. — The  nature  of  a 
commercial  letter  of  credit  can  best  be  understood  by  tracing  an 
imaginary  transaction.  Assume  that  a  grain  exporter  in  the 
United  States  makes  a  shipment  of  grain  to  an  English  importer. 
The  American  shipper  knows  little  about  the  credit  rating  of  the 
importer  and  wants  to  be  sure  of  getting  his  money  if  he  ships  the 
grain.  Accordingly  he  requests  the  English  buyer  to  open  a 
letter  of  credit  (Form  18)  in  favor  of  the  American  exporter  at 
one  of  the  London  banks.  The  buyer  arranges  with  a  London 
bank  where  his  credit  standing  is  well  known,  to  issue  a  letter  of 
credit  in  favor  of  the  American  exporter,  authorizing  the  latter  to 
draw  drafts  upon  the  London  bank's  American  correspondent, 

210 


XIII] 


ACCUMULATING  EXCHANGE 


211 


TiiK  National  City  lUxK  oi- XewYork 


Ix'ttcrofCrcdilXo.      '!?5?0 


h/,  /i .'/-    '.'^0 ;h  25,   )Q2i 


THE     K^llO'iAL     CITY     B,,    .f      \'      '.C  V      vORK, 


;■;  iT-0  5r  4TE3 


.//,.         „,,'/,.     /.,.,.. ,.y  .,..-..,    ...,y     //,      ./.../,. 


/ „//;  „,. 

„/,,„/,,,.„„/.,/..„  ,,///.,//. 


ca 


Form  18.     Commercial  Letter  of  Credit.     (Size  8>2  x  11.) 


212  BANKING  PRACTICE  [XIII 

the  accommodation  to  run  for  a  specified  period  and  for  the 
amount  of  the  shipment.  The  London  bank  advises  the  American 
bank  of  its  action.  When  the  exporter  ships  the  grain  he  draws 
a  draft  upon  the  American  correspondent  bank,  attaches  the 
shipping  documents  to  it,  and  presents  the  draft  to  a  local  bank 
for  discount.  The  instrument  will  be  discounted  at  a  very  favor- 
able rate  because  it  is  drawn  on  a  bank  and  when  accepted  be- 
comes a  prime  bankers'  bill.  After  the  exporter  has  received  his 
money  the  transaction  for  him  is  closed,  except  for  his  contingent 
liability  to  the  discounting  bank  as  drawer  of  the  draft.  The 
bank  which  discounted  the  bill  forwards  it  with  documents  to 
a  correspondent  bank,  to  be  presented  to  the  drawee  bank  for 
acceptance.  When  the  drawee  bank  accepts  the  draft  it  ob- 
tains possession  of  the  documents  covering  the  shipment  and  sends 
them  to  the  London  bank  which  issued  the  letter  of  credit.  The 
London  bank  in  turn  releases  the  documents  to  the  importer  so 
that  he  can  obtain  the  grain  shipped. 

When  the  draft  matures  it  will  have  to  be  paid  by  the  drawee, 
that  is,  the  American  bank.  It  is  necessary  for  the  English  im- 
porter to  provide  the  funds  with  which  the  American  drawee 
bank  may  meet  its  acceptance  on  the  due  date.  The  London  bank 
which  issued  the  letter  of  credit  is  responsible  to  the  American 
bank  for  the  payment  of  the  draft,  and  the  importer  is  in  turn 
responsible  to  the  London  bank.  He  pays  the  amount  of  the 
draft  to  the  London  bank  and  this  bank  in  turn  credits  the  proper 
amount  to  the  American  correspondent.  The  American  bank 
then  pays  the  draft  when  it  matures,  and  the  transaction  is 
completed. 

In  essence  a  letter  of  credit  is  a  guarantee  on  the  part  of  a 
bank  with  an  established  credit  rating  to  be  responsible  for  credit 
extended  under  specified  conditions  to  one  of  its  clients. 

Advantages  to  Buyer  and  Seller. — The  usefulness  of  commer- 
cial credits  is  therefore  obvious.     From  the  standpoint  of  the 


XIII  ]  ACCUMULATING  EXCHANGE  213 

seller  of  goods  such  instruments  constitute  a  convenient  means  of 
exchange,  in  that  the  shipment  is  paid  for  at  the  time  of  its  des- 
patch to  the  buyer.  The  seller  is  also  relieved  of  the  uncertainties 
of  extending  credit  to  the  buyer.  The  function  of  extending 
credit  is  shifted  to  the  buyer's  bank,  which  presumably  is  best 
fitted  to  pass  upon  his  credit  standing.  The  seller  has  the  added 
assurance  that,  if  he  has  followed  the  terms  of  the  credit  and  of 
his  contract  with  the  importer,  he  will  be  protected  from  com- 
plaints, adjustments,  and  cancellations  on  the  part  of  the  buyer. 
From  the  point  of  view  of  the  importer  the  commercial  letter 
of  credit  offers  two  distinct  advantages,  although  it  puts  the 
responsibility  of  financing  importations  upon  him.  One  of  the 
advantages  is  that  he  can  be  reasonably  sure  that  the  shipment 
will  be  made  in  conformity  with  his  desires  as  expressed  in  the 
letter  of  credit.  Another  advantage  is  that  he  does  not  need  to 
pay  for  his  commodities  until  the  maturity  of  the  draft.  He  can 
obtain  release  of  the  merchandise  by  signing  a  trust  receipt, 
under  the  terms  of  which  his  bank  turns  over  the  commodities 
to  him,  and  is  thus  able  to  pay  the  draft  out  of  the  funds  received 
from  the  sale  of  the  goods. 

The  Banks'  Profits. — The  banks  which  are  parties  to  these 
transactions  obtain  their  profits  in  the  form  of  commissions.  In 
addition  to  these  commissions,  banks  which  do  a  large  interna- 
tional banking  business  participate  in  buying,  discounting,  and 
collecting  the  foreign  exchange  items  which  arise  from  these 
credits.  The  banks,  it  should  be  noted,  lend  only  their  credit, 
since  they  do  not  part  with  any  money  during  the  operations  of 
the  exchange  until  they  have  been  paid  by  other  parties.  The 
funds  are  obtained  in  the  last  analysis  from  the  discount  market 
of  the  country  in  the  currency  of  which  the  draft  is  drawn. 

Dollar  Credits — Foreign  Currency  Credits. — Letters  of  credit 
may  be  classified  according  to  the  kind  of  exchange  involved. 


214  BANKING  PRACTICE  [XIII 

Thus  there  are  dollar  credits,  sterling  credits,  franc  credits,  and 
so  forth.  The  determining  factors  in  the  choice  of  the  currency 
to  be  used  are  the  facility  and  economy  with  which  drafts  drawn 
in  a  given  currency  can  be  discounted  in  the  holder's  market. 
These  factors  depend  upon  the  exchange  rate  and  the  conditions 
prevailing  in  the  discount  market  of  the  drawee. 

Clean  and  Documentary  Credits. — Commercial  credits  may 
be  classified  as  clean  and  documentary  credits.  The  credit  is 
termed  documentary  when  the  beneficiary  is  required  to  present 
certain  documents  to  the  negotiating  bank  before  he  can  obtain 
payment  or  acceptance  of  his  draft.  A  credit  is  termed  clean 
when  the  beneficiary's  draft  is  to  be  honored  by  the  negotiating 
bank  on  presentation  with  the  letter,  even  though  unaccompanied 
by  any  documents.  Documentary  credit  is  generally  used  to 
cover  shipments  of  goods  title  to  which  can  readily  be  passed  by 
negotiable  documents,  while  clean  credits  are  used  to  cover  such 
transactions  as  the  transfer  of  funds  from  a  firm  or  corporation 
to  its  agent  or  branch  in  some  other  country. 

Revocable  and  Irrevocable  Credits. — As  to  the  obhgation  of 
the  parties,  credits  may  be  classified  as  revocable  or  irrevocable. 
An  irrevocable,  or  confirmed  credit  is  one  which  cannot  be  can- 
celed or  modified  without  the  consent  of  all  the  engaging  parties. 
The  revocable,  or  unconfirmed  credit,  on  the  other  hand,  is  issued 
with  the  understanding  that  both  contracting  parties  reserve  the 
right  to  cancel  it  at  any  time. 

Credits  Classified  by  Method  of  Payment. — Commercial 
credits  may  be  classified  further  according  to  the  method  which 
the  paying  bank  uses  to  settle  with  the  beneficiary.  The  letter 
may  be  a  straight  credit,  an  acceptance  credit,  a  negotiation 
credit,  a  guarantee  credit,  or  an  authority-to-purchase  credit. 

The  straight,  or  sight  credit  authorizes  the  beneficiary  to 


XIII]  ACCUMULATING  EXCHANGE  215 

collect  a  sight  draft  drawn  on  the  paying  bank.  An  acceptance 
credit  authorizes  the  beneficiary  to  draw  a  time  draft  and  have  it 
accepted.  A  negotiation  credit  is  one  in  which  the  negotiating 
bank  does  not  become  the  drawee  of  the  draft;  the  beneficiary 
draws  upon  the  buyer,  and  the  negotiating  bank  is  instructed  to 
negotiate  or  to  discount  the  draft  for  him. 

Credits  may  be  guaranteed  in  one  of  two  ways:  (i)  The  paying 
bank,  on  the  strength  of  the  guarantee  of  a  foreign  bank,  simply 
advises  the  exporter  that  his  draft  up  to  a  certain  amount  will  be 
honored  abroad ;  it  assumes  no  obligation  for  payment  under  this 
method,  and  the  beneficiary  must  receive  his  funds  from  the  issu- 
ing bank  or  from  the  importer.  (2)  The  paying  bank  issues  its  own 
guarantee  that  the  beneficiary's  drafts  will  be  honored  abroad. 

Under  the  authority-to-purchase  credit,  the  bank  advises  the 
beneficiary  of  the  credit  and  stands  ready  to  purchase  his  drafts, 
with  or  without  recourse  to  him,  at  their  face  value.  An  author- 
ity-to-purchase credit  drawn  without  recourse  is  often  spoken  of 
as  a  bankers'  credit. 

Reimbursement  Credits. — Another  form  of  credit  is  the  reim- 
bursement credit.  Usually  the  two  banks  which  are  concerned 
as  principal  parties  in  the  transaction  settle  with  each  other  by 
means  of  charges  and  credits  to  their  accounts  maintained  with 
each  other.  In  some  cases,  however,  a  bank  of  unimpeachable 
credit  standing  may  designate  some  bank  with  which  it  does  not 
maintain  an  account  to  be  paying  agent  under  one  of  its  credits. 
A  credit  opened  under  such  circumstances  is  termed  a  "reimburse- 
ment" credit  because  of  the  peculiar  way  in  which  the  paying 
bank  reimburses  itself  for  its  outlay.  The  bank  makes  the 
required  payment  to  the  accredited  party  in  the  funds  of  his 
country.  It  then  draws  a  draft  upon  the  issuing  bank  for  the 
equivalent  amount  in  foreign  currency.  This  draft  is  forwarded 
for  collection  to  one  of  its  correspondents  located  in  the  vicinity 
of  the  issuing  bank. 


2l6  BANKING  PRACTICE  [XIII 

Fixed  and  Revolving  Credits. — Another  classification  of 
credits  may  be  noted:  fixed  or  ''non-revolving,"  and  "revolving" 
credits.  The  non-revolving  credit  is  issued  for  a  maximum 
amount,  against  which  drawings  may  be  made  by  the  beneficiary. 
As  each  draft  is  drawn,  the  amount  of  the  credit  is  diminished  by 
the  amount  of  the  draft.  When  the  whole  amount  is  exhausted, 
the  credit  ceases  to  exist.  The  revolving  credit,  on  the  other 
hand,  is  not  exhausted  by  drawings;  it  represents  rather  a  con- 
tinuing obligation  of  the  bank  to  meet,  within  a  definite  term, 
drafts  up  to  a  certain  maximum  amount  outstanding  at  any  one 
time.  It  sometimes  happens,  however,  that  banks  renew  or 
extend  credits  which  have  become  exhausted.  When  this  is  done 
the  renewal  is  generally  issued  in  the  form  of  an  authority-to- 
purchase  credit. 

Types  of  Revolving  Credits — There  are  several  forms  of  re- 
volving credits.  The  most  common  form  permits  the  benefic'ary 
to  draw  drafts  for  various  sums  and  at  various  times.  These 
drafts  temporarily  exhaust  the  credit,  but  as  they  are  paid  the 
proceeds  are  restored  to  the  credit  for  future  use.  A  second  form 
enables  the  beneficiary  to  draw  a  certain  amount  in  one  draft. 
When  the  bill  has  matured  and  has  been  paid  a  similar  sum  may 
be  drawn,  and  so  on  until  the  term  of  credit  has  expired.  A 
third  form  permits  the  beneficiary  to  draw  up  to  a  certain  amount 
periodically.  This  form  may  be  cumulative  or  non-cumulative. 
If  cumulative,  such  portions  as  were  authorized  for  previous 
periods  but  were  not  drawn  are  available  for  drawing  in  later 
periods.  If  the  credit  is  non-cumulative,  drawings  authorized 
for  a  previous  period  cannot  be  used  at  a  later  time. 

Import  Commercial  Credits— Bank  Operations. — The  duties 
performed  by  a  bank  in  the  handling  of  commercial  credits  vary 
according  to  whether  the  bank  acts  in  the  capacity  of  the  issuing 
bank  or  in  that  of  the  paying  or  accepting  bank.    When  a  bank 


XIII]  ACCUMULATING  EXCHANGE  217 

opens  a  credit  upon  the  application  of  an  importer — that  is, 
when  it  acts  as  the  issuing  bank — it  performs  such  operations  as: 
Passing  upon  the  credit  rating  of  the  importer. 
Making  arrangements  with  the  applicant  as  to  the  terms 

of  the  credit. 
Making  arrangements  with  the  foreign  correspondents  to 

pay  or  accept  the  drafts  of  the  exporter. 
Receiving  documents  from  abroad  as  import  shipments  are 

made. 
Arranging  for  the  release  of  the  documents  to  importers. 
Collecting  from  the  importer. 
Making  settlement  with  the  paying  or  accepting  bank.  * 

Bank  Operations  under  Export  Commercial  Credits. — When 
an  American  bank  acts  as  the  paying  bank  on  the  request  from  a 
foreign  bank  to  make  advances  to  American  exporters,  under 
terms  of  a  letter  of  credit  issued  by  the  foreign  bank,  it  performs 
such  duties  as:  receiving  advice  of  credits  opened,  advising  the 
beneficiary  of  the  credit,  making  advances  to  the  beneficiary  as 
he  uses  the  credit,  and  reimbursing  itself  for  these  outlays.  The 
operations  performed  by  the  issuing  bank,  constitute  what  might 
be  termed  the  import  phase  of  the  transaction;  the  operations 
performed  by  the  paying  bank  constitute  what  might  be  termed 
the  export  phase.  Banks  accumulate  exchange  through  the 
operation  of  export  commercial  credits. 

Export  and  Import  Credits — Proportion. — With  respect  to 
export  commercial  credits  American  banks  act  as  paying  agents, 
just  as  the  foreign  banks  act  in  that  capacity  with  respect  to 
credits  issued  through  the  import  commercial  credit  operations 
of  American  banks.  As  there  is  a  greater  flow  of  commodities 
out  of  the  United  States  than  into  it,  the  volume  of  work  connected 
with  export  credits  exceeds  that  connected  with  import  credits. 
The  large  favorable  balance  in  the  foreign  trade  of  the  United 


2l8 


BANKING  PFL^CTICE 


XIII 


States  during  the  past  few  years  is  reflected  in  the  types  of  credit 
which  have  predominated  in  the  work  of  these  two  divisions. 


Baroh  25,  1921. 

A.orIcan  Coal  Co.,  Inc.,                                                   ^^a"in';ieiSf  llnlTo'. 
200  Broadway,                                                                     oup  Do. 

New  York  City.                                                                       55555 

Dear  Sira  : 

We  are  pleased  to  inform  you  that  we  have  been  requested  to  open  a 
credit   in  your    favor  under   the   terms   and   conditions    stipulated  belo» : 

Opened  by    Copemhagen  Laone  og  Distcontobank,  Copenhagen,   Denoarlc, 

cable  3/24/21 . 
Account        P.  Frausing  Broodrene 

Amount           Up  to  $26,000. 

Available  by  draft   at  eight  on  ue  bearing  credit  no.  F.  E.  55555 

Covering       About  3,250  tons  of  coal,   per  sailing  vessel   "Slaven"   froa  New- 
port News  to  Korsoer. 

NOTE;              All   insurance  covered  abroad. 

Drafts   drawn  under   this   credit  must   be  presented  not    later   thanApril  11,1921 
unless  sooner  revoked. 

Documents   required  : 

Full  set  ocean  bills  of  lading  Issued  to  order  and  blank  indorsed. 
Plain  Invoice  in  triplicate. 

AMOUNT  OF  CPEOIT 

Above  bank 

Cable  4/2/21  -   increase  to 
$30,  000 

Cable  reo'  d  3/28/21  -  authorizes  us  to   pay  advances  to 
the  Captain  of  the  "Slaven"   up  to  the  amount  of  $3,000. 
out  of  the  credit  aaount. 

CITENSION9 

DISPOSITION  OF  DOCUMENTS 

1        CANCELLED  BY                                             DATE 

Form  19  (a).     Beneficiary's  Card  or  Credit  Advice  (face).     (Size  8}4  x  lo^.) 

During  recent  years  the  exports  have  so  largely  exceeded  the 
imports,  and  there  has  been  such  a  demand  for  American  products 


XIII] 


ACCUMULATING  EXCHANGE 


219 


abroad,  that  the  exporter  has  usually  been  able  to  require  cash 
payments.  Accordingly,  most  of  the  export  commercial  credits 
have  been  straight  credits,  whereas  import  credits  have  much 
more  frequently  taken  the  long-time  acceptance  form. 


Opening  an  Export  Credit. — The  first  step  in  handling  export 
commercial  credits  is  the  receipt  of  a  letter  of  credit  from  the 
American  bank's  correspondent  giving  the  details  concerning  the 
particular  transaction.    Many  of  such  details  conform  to  general 


J 

„TC.~.>  .MOUNT  OP  ...M.~, 

1 

.MOUNT 

..L 

t. 

b.«c 

Cn. 

».«i 

c.n.  u 

.^ 

Apr.  5. 

29  545 

60 

Covering  3,270  tone  Pocahontas  coal 
shipped  per  sailing  veoeel  "Slaven" 
Koreoer,  B/L  dated  4/3/21     Charges  a 
advances  to  Captain. 

1/3 
"rom 
loun 

New; 
ing 

1/3 
drt 

to  i 

»ews 
1,50( 

1 
to 
for 

Form  19  (b).     Beneficiary's  Card  or  Credit  Advice  (reverse). 

instructions  in  effect  between  the  bank  and  its  foreign  correspond- 
ents. The  signature  appearing  on  the  letter  is  then  verified, 
inasmuch  as  the  instrument  is  in  effect  a  draft  payable  in  instal- 
ments. An  investigation  is  made  to  ascertain  whether  the  balance 
of  the  foreign  bank  or  firm  opening  the  credit  is  sufficient.  In  the 
case  of  a  confirmed  credit  the  total  contingent  liability  of  the 
foreign  bank  or  firm,  under  letters  of  credit  already  outstanding, 
is  also  determined.  After  these  steps  have  been  taken,  the  letter 
of  credit  is  sent  to  an  officer  of  the  bank  for  approval.  If  it  is 
approved,  the  beneficiary  is  advised  (Form  19)  that  the  credit  in 
his  favor  has  been  opened,  and  the  foreign  correspondent  is  in- 
formed likewise  that  the  credit  has  been  granted  in  accordance 
with  its  instructions. 


220  BANKING  PRACTICE  [XIII 

Examination  of  Documents. — When  the  American  exporter 
has  prepared  his  shipment,  he  presents  to  the  bank  the  documents 
stipulated  in  the  letter  of  credit  together  with  his  draft  for  the 
proper  amount.  Before  payment  can  be  made  to  him  care  must 
be  taken  to  see  that  the  documents  are  all  in  order,  and  that  all 
conditions  specified  in  the  credit  have  been  complied  with. 
Documents  are  checked  against  specifications  of  the  shipment  as 
to  price,  quantity,  and  nature  of  the  merchandise.  Insurance 
certificates,  bills  of  lading,  and  other  documents  are  checked  to 
see  that  all  copies  are  in  the  possession  of  the  bank,  and  to  be  sure 
that  they  bear  no  qualifying  marks  such  as  "Bags  torn,"  "Con- 
tents shifting,"  or  any  other  c{ualifications  which  might  impair  the 
strength  of  the  bill  of  lading. 

Payments  under  Export  Credits. — If  everything  is  in  conform- 
ity with  the  terms  of  the  credit,  the  amount  to  be  paid  under  this 
particular  transaction  is  deducted  in  order  to  show  the  amount 
still  outstanding  on  the  credit,  if  any.  The  documents  are  then 
forwarded  to  the  foreign  correspondents,  and  settlement  is  made 
with  the  customer.  Payment  may  be  effected  in  the  case  of  a 
straight  credit  by  means  of  a  cashier's  check  or  a  credit  to  the 
customer's  account;  in  the  case  of  an  acceptance  credit,  by  ac- 
cepting a  draft  in  his  favor. 

Domestic  Commercial  Credits. — Letters  of  credit  may  also 
be  used  to  finance  domestic  shipments.  This  happens  when  goods 
are  to  be  transported  from  the  interior  oi  the  country  to  the  sea- 
board, where  railroad  bills  of  lading  are  to  be  exchanged  for  ocean 
documents  and  the  shipment  sent  forward  under  foreign  letters 
of  credit.  For  example,  an  exporter  located  in  New  York  City 
may  open  a  domestic  letter  of  credit  in  favor  of  a  manufacturer  in 
Chicago.  The  latter  loads  his  produce  on  the  cars  and  receives 
railroad  bills  of  lading,  which  he  presents  with  his  draft  to  the 
Chicago  bank  in  conformity  with  the  terms  of  credit.    When  he 


XIII]  ACCUMULATING  EXCHANGE  221 

obtains  his  money,  his  part  of  the  transaction  is  finished.  The 
Chicago  bank  forwards  the  documents  to  the  New  York  bank  and 
the  latter  hands  the  railroad  bills  of  lading  to  the  exporter  who 
has  estabhshed  the  credit,  in  exchange  for  a  trust  receipt.  When 
the  shipment  arrives  in  New  York  the  exporter  gives  up  his  rail- 
road bills  of  lading  and  obtains  possession  of  the  goods.  He  has 
them  loaded  on  a  steamer  and  receives  ocean  bills  of  lading  in 
return. 

The  exporter  must  now  provide  the  funds  for  liquidating  the 
domestic  letter  of  credit.  Usually  he  is  the  beneficiary  of  a  credit 
opened  by  the  foreign  importer  of  goods,  and  under  this  arrange- 
ment he  presents  the  documents  to  the  bank  and  applies  such  a 
portion  of  the  proceeds  as  is  necessary  to  cover  the  draft  drawn 
under  his  domestic  letter  of  credit.  The  exporter  in  such  cases 
reaps  his  profit  without  employing  any  of  his  own  money  in  the 
transaction. 

Summary. — The  purpose  of  this  chapter  and  the  preceding  one 
has  been  to  show  the  manner  in  which  a  bank  builds  up  its  foreign 
balances,  or,  in  other  words,  accumulates  a  stock  of  exchange 
against  which  it  may  sell  drafts  and  other  items.  As  already  ex- 
plained, three  kinds  of  transactions  provide  the  materials  for 
augmenting  the  bank's  foreign  balances:  export  foreign  collec- 
tions, foreign  discounts,  and  export  commercial  credits.  In  all 
these  transactions  a  bank  exchanges  funds  in  America  for  funds 
in  some  foreign  center.  In  the  case  of  foreign  collections,  the  bank 
does  not  pay  out  the  money  at  home  until  the  funds  abroad  have 
been  received,  or  have  been  credited  to  its  foreign  account.  In 
the  case  of  foreign  discounts  the  American  bank  exchanges  funds 
in  this  country  for  funds  to  be  received  later  abroad.  In  the  case 
of  export  commercial  credits  it  exchanges  funds  in  the  domestic 
markets  on  the  strength  of  the  guarantee  on  the  part  of  a  foreign 
bank  to  be  responsible  for  the  payment  of  the  funds  abroad  at  a 
specified  time  in  the  future. 


CHAPTER   XIV 

SELLING  EXCHANGE— IMPORT   COLLECTIONS   AND 
FOREIGN  DRAFTS 

Ultimate  Sources  of  Demand  for  Excharxge. — Having  dis- 
cussed the  banking  machinery  for  trading  in  foreign  exchange  and 
the  manner  in  which  the  supply  of  exchange  is  accumulated  by  a 
bank,  there  remains  the  task  of  showing  the  sources  of  the  demand 
for  this  exchange,  or,  in  other  words,  the  sale  of  exchange  by 
banks.  Just  as,  in  connection  with  the  supply  of  the  general  stock 
of  exchange,  the  ultimate  sources  of  the  supply  were  first  consid- 
ered, so  here  it  will  be  desirable  first  to  consider  the  ultimate 
sources  of  the  demand  for  exchange,  after  which  the  forms  in 
which  the  demand  comes  to  a  bank  will  be  discussed. 

Demands  for  foreign  exchange  grow  out  of  transactions  which 
may  be  arranged  in  five  main  groups: 

1.  The  first  source  of  demand  for  exchange  is  in  connection 
with  the  importation  of  commodities.  An  American  buyer,  for 
example,  purchases  goods  in  France.  In  paying  for  them  he  may 
choose:  (a)  to  send  gold;  (b)  to  buy  from  a  banker  or  other  ex- 
change dealer  the  use  of  a  portion  of  such  person's  foreign  balance 
with  which  to  make  the  payment;  or  (c)  to  make  temporary  settle- 
ment by  giving  his  promise  to  pay  in  some  form  at  a  future  time. 
It  should  be  noted  that  the  last  method  is  merely  temporary;  at 
some  time  in  the  future,  resort  must  be  made  to  one  of  the  other 
two  forms  of  settlement. 

2.  The  purchase  of  foreign  securities  by  American  investors, 
or  the  purchase  of  American  securities  owned  by  foreigners,  in- 
creases the  demand  for  exchange,  because  the  buyer  must  trans- 
mit the  funds  for  the  payment  of  his  purchase  to  the  country 
from  which  the  securities  were  bought.    Hence  such  transactions 


I 


XIV]  IMPORT  COLLECTIONS;  FOREIGN  DRAFTS  223 

increase  the  number  of  persons  in  the  United  States  who  wish 
to  buy  foreign  exchange.  It  should  be  remembered  that,  while 
there  is  always  the  option  of  shipping  gold  in  payment,  this  is 
rarely  done,  those  having  claims  to  meet  preferring  to  meet  them 
by  the  purchase  of  exchange  unless  the  price  of  exchange  is 
prohibitive. 

3.  A  considerable  demand  for  exchange  arises  from  banks  with 
international  affiliations  and  in  connection  with  the  operations  of 
making  foreign  loans.  When  an  American  banker  desires  to  lend 
money  in  the  London  market,  the  usual  method  by  which  he 
transfers  funds  to  London  is  by  exchanging  his  money  in  New 
York  for  a  bill  of  exchange  on  a  London  bank  balance. 

4.  Payments  of  interest  and  dividends  on  securities  held 
abroad,  settlement  of  freight  bills  due  to  foreign  shipping  con- 
cerns, and  payments  for  insurance  premiums  due  to  foreign  in- 
surance companies,  all  necessitate  the  exchanging  of  money  in 
this  country  for  money  in  the  foreign  centers,  and  hence  increase 
the  demand  here  for  balances  which  are  maintained  abroad. 

5.  Remittances  by  immigrants  to  their  friends  at  home  and 
expenditures  made  by  tourists  traveling  abroad  increase  the  de- 
mand for  foreign  exchange.  Each  of  these  transactions  involves 
the  giving  up  of  money  in  this  country  in  exchange  for  a  draft, 
travelers'  check,  or  other  instrument  which  will  give  the  holder 
abroad  the  right  to  draw  money  from  bank  balances  accumulated 
there. 

Banking  Transactions  in  Connection  with  These  Demands. — 

The  above  five  groups  of  transactions  illustrate  the  fundamental 
sources  of  demand  for  exchange.  Practically  all  demands  for 
bills  of  exchange  can  be  traced  to  one  of  these  groups  of  transac- 
tions. Banks  which  engage  in  trading  in  foreign  exchange  are 
constantly  buying  and  selling  bills  which  have  originated  in  one 
of  these  ways.  This  discussion  involves  more  particularly  the 
manner  in  which  these  calls  for  exchange  come  to  the  bank  and 


224  BANKING  PRACTICE  [XIV 

an  understanding  of  the  banking  transactions  which  reduce  the 
stock  of  exchange  possessed  by  a  particular  bank. 

The  banking  transactions  involved  may  be  grouped  under  four 
main  heads: 

1.  The  collection  for  foreign  correspondents  of  items  payable 

in  America. 

2.  The  sale  of  foreign  drafts  and  cable  transfers. 

3.  The  sale  of  travelers'  checks  and  travelers'  letters  of  credit. 

4.  The  commitments  of  the  bank  under  import  commercial 

credits. 

The  first  two  classes  of  transactions  are  discussed  in  this  chapter, 
and  the  other  two  in  the  following  chapter. 

Foreign  Import  Collections. — Foreign  import  collections,  or 
"import  collections"  as  they  are  more  frequently  called,  are 
similar  to  the  export  collections  described  in  Chapter  XII  ex- 
cept that  they  are  payable  in  the  United  States  instead  of  a 
foreign  country.  They  consist  of  items  which  have  been  accepted 
by  foreign  banks  in  their  collection  or  discount  service  and  which 
have  been  sent  to  American  banks  for  collection.  All  import 
collections  are  payable  in  the  United  States.  They  are  usually 
received  by  the  American  bank  through  the  mail,  but  they  may 
be  presented  at  the  window  in  case  the  foreign  concern  present- 
ing them  for  collection  has  an  agent  or  branch  in  the  United 
States. 

The  American  bank's  stock  of  exchange  is  depleted  by  such 
collection  activities  because,  after  obtaining  the  funds  from  the 
American  debtor,  settlement  must  be  made  with  the  foreign  bank 
which  forwarded  the  items.  This  settlement  is  made  usually  by 
authorizing  the  correspondent  to  charge  the  credit  balance  of  the 
American  bank  for  the  amount,  or  by  remitting  the  amount  to  the 
correspondent  by  means  of  a  draft  drawn  on  an  account  main- 
tained by  the  American  bank  in  some  other  foreign  bank. 


XIV]  IMPORT  COLLECTIONS;  FOREIGN  DRAFTS  225 

Items  Accepted  by  Import  Collection  Department. — The  kinds 
of  items  handled  by  the  import  collection  department  are  drafts, 
notes,  checks,  or  similar  negotiable  instruments.  These  items 
may  be  divided  into  two  main  groups:  cash  items  and  collection 
items.  The  distinction  between  the  two  groups  is  the  same  as 
that  made  elsewhere — cash  items  are  those  collections  the  pro- 
ceeds of  which  are  to  be  credited  to  the  account  of  the  sender  on 
the  day  of  receipt;  whereas  collection  items  are  those  deposits 
which  are  not  yet  due,  and  which  are  therefore  to  be  credited 
only  after  the  funds  called  for  have  been  received. 

Cash  items  are  handled  in  much  the  same  way  as  an  ordinary 
deposit,  that  is,  they  are  distributed  to  the  bookkeepers,  the 
clearing  house  racks,  and  the  transit  department,  according  to  the 
banks  upon  which  they  are  drawn.  The  foreign  customer  is 
advised  in  the  usual  manner  that  his  account  has  been  credited 
for  the  amount.  If  any  items  are  later  returned  unpaid,  reim- 
bursement is  obtained  by  charging  back  the  unpaid  items  and 
advising  the  customer  of  this  action. 

Handling  of  Import  Collections. — The  collection  items  in- 
clude bills  drawn  in  foreign  currencies,  time  bills,  documentary 
drafts,  and  communications  in  which  the  bank  is  requested  to 
make  delivery  of  valuable  papers  and  documents  only  upon  re- 
ceipt of  specified  payments.  In  the  case  of  incoming  collection 
items  drawn  in  terms  of  foreign  currency,  the  bank  first  makes 
conversion  of  the  face  amount  into  United  States  currency,  since 
that  is  the  form  in  which  the  local  debtor  makes  payment  to  the 
bank.  The  amount  he  must  pay  in  local  currency  to  settle  for  the 
item  is  determined  by  obtaining  the  conversion  rate  either  from  the 
foreign  exchange  traders  of  the  bank  or  in  the  exchange  market. 

When  the  import  collections  are  received,  the  cash  items  are 
separated  from  the  collection  items,  and  each  of  the  latter  docu- 
ments is  assigned  a  serial  number,  which  becomes  the  identifica- 
tion number  for  the  particular  transaction.    A  collection  register 


226  BANKING  PRACTICE  [XIV 

is  kept  in  which  are  entered  information  as  to  the  customer  from 
whom  the  item  has  been  received;  the  person  to  whom  it  is  to  be 
credited;  its  amount,  tenor,  date  of  maturity,  and  place  of  pay- 
ment; the  documents  and  instructions  relating  to  it;  and  its  final 
disposition.  The  incoming  foreign  collection  items  require  the 
same  sort  of  attention  and  collection  service  as  is  given  domestic 
collections  described  in  Chapter  IX.  For  this  reason  those  items 
are  turned  over  to  the  domestic  collection  employees.  Time 
items  are  held  after  acceptance  until  maturity,  when  they  are 
presented  for  payment. 

Discounting  Import  Collections. — Some  of  the  import  items 
may  be  discounted  at  the  wish  of  the  foreign  customer.  Many 
foreign  banks  have  standing  instructions  with  their  American 
correspondents  to  discount  collection  items  for  them  from  time  to 
time,  in  amounts  sufficient  to  restore  their  balances,  in  case  these 
balances  fall  below  a  certain  specified  amount.  In  other  cases  the 
bank  itself  assumes  the  responsibility  for  discounting  import 
collection  items,  placing  the  proceeds  to  the  credit  of  customers 
whose  accounts  show  an  overdraft,  in  order  to  bring  the  account 
back  to  a  credit  balance.  These  discounts  are  handled  in  the  same 
manner  as  domestic  discounts. 

Settlement  with  the  Foreign  Bank. — When  the  bank  receives 
payment  for  a  foreign  import  collection  item,  settlement  must  be 
made  with  the  foreign  owner,  or  rather  with  the  foreign  bank  in 
which  the  collection  item  has  been  deposited.  If  the  foreign  bank 
is  a  correspondent  of  the  American  bank  and  maintains  a  recipro- 
cal account  with  it,  settlement  may  be  made  by  crediting  the 
amount  to  the  foreign  bank  or  by  authorizing  that  bank  to  debit 
the  account  of  the  American  bank  with  a  similar  sum.  If  the 
American  bank  does  not  carry  an  account  with  the  foreign  bank  a 
sight  bill  of  exchange  on  one  of  its  foreign  correspondents  may  be 
drawn  and  forwarded  to  the  creditor  bank. 


XIV]  IMPORT  COLLECTIONS;  FOREIGN  DRAFTS  227 

If  items  are  not  paid  after  they  have  been  presented,  the 
owner  is  notified.  If  he  has  filed  any  instructions  with  the  bank  as 
to  procedure  in  such  case,  this  procedure  is  followed.  It  is  often 
possible  to  adjust  differences  between  the  drawer  and  drawee  and 
thus  obtain  payment.  As  soon  as  it  has  been  definitely  estab- 
lished that  a  collection  will  not  be  paid,  the  item  is  returned  to  the 
owner,  or  to  the  bank  acting  for  him,  with  an  advice  to  the  effect 
that  his  account  has  been  debited  with  the  expenses  incurred  in 
the  attempt  to  make  collection.  These  expenses  include  protest 
fees,  bill  stamps,  cable  charges,  and  a  small  commission  for  the 
effort  to  collect. 

Selling  Foreign  Drafts. — The  second  group  of  transactions 
(see  page  224)  which  reduce  a  bank's  stock  of  exchange  includes 
those  arising  in  connection  with  the  sale  of  foreign  drafts,  cable 
transfers,  and  letter  transfers.  The  use  of  bank  drafts  or  bankers' 
checks  to  transfer  funds  from  this  country  to  foreign  countries  is 
very  widespread.  These  drafts  may  be  drawn  either  in  foreign 
currency  or  in  dollars,  according  to  the  contract  between  the 
buyer  of  the  draft  and  the  payee.  Foreign  currency  drafts  are 
the  more  commonly  used.  When  remittance  is  made  in  the  form 
of  a  dollar  draft,  the  foreign  payee  bears  the  risk  of  fluctuations 
in  the  exchange  rate.  Such  drafts,  however,  are  usually  stamped 
"Payable  at  the  buying  rate  in  (the  financial  center  to  which  they 
are  forwarded)  for  sight  drafts  on  New  York."  This  insures  the 
payee  the  most  favorable  rate  for  cashing  the  draft. 

Cable  Transfers. — A  cable  transfer  corresponds  to  the  tele- 
graphic transfer  within  a  country.  The  cable  transfer  method 
presents  certain  important  advantages  to  those  who  have  pay- 
ments to  make.  The  first  advantage  is  that  by  this  means  funds 
can  be  transferred  to  a  foreign  center  within  a  few  hours.  This 
rapidity  of  transfer  enables  the  remitter  to  wait  before  making 
his  payment  until  the  day  his  account  is  due  abroad ;  thus  he  has 


228  BANKING  PRACTICE  I XIV 

the  use  of  his  funds  during  the  days  or  weeks  required  for  the 
transmission  of  a  sight  draft.  If  he  purchased  a  sight  draft  he 
would  have  to  pay  the  local  bank  for  it  eight  or  ten  days  before 
the  maturity  of  his  obligation  abroad. 

A  second  advantage  of  the  use  of  cable  transfers  is  that  by 
waiting  to  settle  his  account  until  the  last  day  the  remitter  is 
able  to  watch  the  fluctuations  in  the  rate  of  exchange.  If  the 
rate  is  high  on  the  day  he  would  ordinarily  be  compelled  to  pur- 
chase a  sight  draft  for  mailing,  he  can  wait  until  more  favorable 
rates  are  obtainable,  provided  he  remits  by  cable  in  time  to  meet 
his  account  when  due. 

Letter  Transfers. — A  letter  transfer  (Form  20)  consists  of  a 
form  letter  addressed  to  a  foreign  bank  by  an  American  bank, 
requesting  the  foreign  bank  to  make  certain  stipulated  payments 
against  duplicate  receipts  and  identifications,  and  to  charge  the 
account  of  the  American  bank  for  such  payments.  Applications 
for  letter  transfers  are  received  in  the  same  manner  as  for  drafts, 
and  reimbursement  is  made  to  the  bank  by  the  applicant  in  the 
same  way.  Letter  payments  are  frec^uently  used  to  open  ac- 
counts for  clients  who  are  planning  to  reside  abroad  for  some  time. 
The  usual  form  of  letter  payment  is  drawn  up  and  specimens  of 
the  client's  signature  are  enclosed  to  facilitate  authentication  of 
the  checks  which  he  may  draw  against  the  foreign  account. 

The  arrangement  differs  from  the  clean  credit  in  that  funds 
are  actually  deposited  in  the  foreign  bank  for  the  use  of  the  client 
at  his  pleasure,  and  the  foreign  bank  pays  his  checks  out  of  this 
deposit  in  the  same  manner  as  it  pays  those  of  its  regular  deposi- 
tors; whereas,  in  the  case  of  a  clean  credit  the  foreign  bank  nego- 
tiates the  customer's  draft  at  the  buying  rate  for  sight  drafts  on 
New  York,  and  reimburses  itself  by  forwarding  this  draft  to  New 
York  for  collection.  The  foreign  bank  prefers  the  letter  payment 
method  because  it  has  the  use  of  the  funds  which  are  deposited, 
while  the  American  bank  is  deprived  of  the  total  amount  from 


XIV 


IMPORT  COLLECTIONS;  FOREIGN  DRAFTS 


229 


the  time  the  transaction  is  made.  In  the  case  of  a  clean  credit  the 
American  bank  generally  has  the  use  of  the  funds  until  payment 
is  actually  made  abroad. 


THE    NATIONAL    CITY    BANK    OF    NEW    YORK 

FOREIGN  TELLERS 
ORIGINAL 


NEW    YO 


„.    crU/ff  /^    .. 


NO.  D_  1898. 


cle  >o  l>«  forwarded  lo  oi.     TOTAL:  ^_  (J Q Q  ^!£~ 


BENEFICIARY 


ORDERED    BY 


DESCRIPTION 


r4^6r 


m  ?^ 


9?Jl/'^^fQ!c^ 


^a^^t€^ 


J'^TZ^^^ 


THE   NATJONAL  CITY    BANK  OF   NEW    YORK 


^^  0^^  c^^ 


Form  20.     Letter  Transfer  or  Foreign  Payment  Letter.     (Size  8x6.) 

Drawing  on  Non-Correspondents.— Other  transactions  which 
reduce  the  foreign  balances  of  the  American  bank  are  orders 
addressed  to  foreign  correspondents  who  pay  out  portions  of  the 
bank's  balance  in  a  manner  similar  to  the  procedure  followed 
when  a  depositor  draws  his  check  upon  a  local  bank.  A  somewhat 
different  transaction  but  one  which  also  reduces  the  foreign 
balance  of  an  American  bank,  is  that  of  a  request  to  a  bank  for  a 
draft  upon  some  bank  located  in  or  near  the  place  to  which  a 
remittance  is  to  be  sent,  but  in  which  the  American  bank  does  not 
carry  an  account.  The  American  bank  draws  on  an  institution 
located  conveniently  for  the  beneficiary,  but,  as  the  drawee  bank 
cannot  reimburse  itself  by  charging  the  account  of  the  American 


230  BANKING  PRACTICE  [XIV 

bank,  the  latter  is  obliged  to  furnish  to  the  former  some  means  of 
reimbursement  before  the  draft  is  presented  for  payment.  This 
may  be  done  in  one  of  two  ways.  With  the  notification  to  the 
drawee  bank  that  a  draft  upon  it  has  been  issued,  the  American 
bank  may  enclose  a  sight  draft  upon  one  of  its  own  correspondents 
in  the  vicinity  and  payable  to  the  drawee  bank.  The  other  means 
of  reimbursing  the  drawee  bank  is  to  request  it  to  draw  a  sight 
draft  in  its  own  favor  upon  one  of  the  near-by  correspondents  of 
the  American  bank  in  question,  specifying  the  name  of  the 
correspondent  upon  which  the  draft  is  to  be  drawn. 

Types  of  Bills  Sold— The  Long  Bill.— Still  another  type  of  bill 
which  depletes  the  American  bank's  stock  of  foreign  exchange  is 
issued  when  there  is  (as  in  normal  times)  a  considerable  demand  in 
the  New  York  market  for  60-  and  90-day  bills.  An  importer  may 
find  himself  well  supplied  with  funds  but  with  no  foreign  obliga- 
tions maturing  for  two  or  three  months.  He  does  not  wish  to 
have  these  funds  idle  but  he  desires  to  be  prepared  to  meet  his 
payments  when  due.  To  keep  these  funds  employed  he  antici- 
pates his  payments  by  purchasing  long-time  bills,  and  thereby 
receives  the  advantage  of  the  lower  rates  prevailing  for  such  drafts ; 
the  saving  thus  effected  may  be  regarded  as  interest  on  the  money 
invested.  He  is  therefore  receiving  interest  on  his  money  and  at 
the  same  time  ready  to  settle  his  account  when  it  becomes  due. 
Or  the  importer  may  foresee  a  rise  in  the  value  of  a  foreign  cur- 
rency before  his  payment  is  due.  This  would  make  it  advisable 
for  him,  if  he  has  idle  funds,  to  purchase  his  exchange  for  future 
remittance  before  the  maturity  of  his  foreign  debts.  When  these 
long  bills  sold  by  the  bank  mature,  they  are  charged  to  its  ac- 
count and  thus  reduce  the  bank's  foreign  balance. 

Actual  Demands  on  the  Bank — How  Met. — The  demands  for 
facilities  for  making  foreign  payments  come  through  the  personal 
application  of  traders,  travelers,  investors,  and  others  who  wish 


XIV]  IMPORT  COLLECTIOxXS;  FOREIGN  DRAFTS  231 

to  settle  accounts  abroad,  as  well  as  from  banks  in  the  interior  of 
the  country  which  have  no  direct  connection  with  foreign  banks. 
In  the  latter  case  the  interior  banks  are  sometimes  permitted  to 
draw  drafts  on  the  foreign  correspondents  of  a  metropolitan  bank. 
These  foreign  banks  charge  the  account  of  the  American  bank, 
the  latter  in  turn  receiving  reimbursement  from  the  domestic 
banks. 

A  bank  which  provides  this  service  to  domestic  correspondents 
furnishes  them  with  a  booklet  giving  the  names  of  its  foreign  cor- 
respondents, and  containing  draft  forms  stamped  with  the  name 
of  the  domestic  bank,  and  a  rate  sheet  showing  the  rate  of  ex- 
change which  the  domestic  bank  is  to  charge  its  clients.  These 
rate  sheets  are  changed  from  time  to  time,  the  frequency  de- 
pending upon  the  extent  of  the  changes  in  the  market  rates.  The 
bank's  exchange  rates  are  slightly  above  the  market  quotation, 
since  the  rates  quoted  for  this  business  are  applicable  for  drawings 
only  up  to  the  equivalent  of  $1,000.  The  charge  to  the  purchaser 
of  the  draft  is  made  up  of  three  elements:  (i)  the  face  of  the  draft 
in  dollars,  (2)  the  charge  of  the  foreign  bank  for  cashing  the  item, 
and  (3)  the  commission  charged  by  the  local  selling  bank.  The 
city  bank  furnishing  the  service  makes  its  profit  from  the  ex- 
change transaction;  that  is,  it  charges  a  somewhat  higher  rate  of 
exchange  than  it  pays  in  the  market. 

The  Application  Form. — When  application  is  made  for  a 
foreign  draft  the  bank  requests  its  customer  to  fill  out  an  applica- 
tion form,  giving  his  name  and  address,  the  name  and  address  of 
the  foreign  payee,  and  the  amount  and  kind  of  currency  desired. 
The  apphcation  is  accompanied  by  money,  certified  check,  or 
cashier's  check  for  the  amount,  or  by  instructions  to  debit  the 
applicant's  account  with  the  bank  if  he  has  one.  In  the  latter 
case  the  signature  on  the  application  is  certified,  and  the  book- 
keeper in  charge  of  the  account  is  instructed  to  hold  a  portion  of 
the  balance  sufficient  to  cover  the  draft. 


232  BANKING  PRACTICE  [XIV 

Determining  the  Selling  Price. — When  the  application  has 
been  received  and  approved,  the  selling  price  is  computed.  In 
selling  dollar  drafts  the  American  bank  makes  its  direct  profit  in 
the  form  of  a  commission,  which  is  added  to  the  face  of  the  draft 
to  make  up  the  total  cost.  In  issuing  a  foreign  currency  draft  no 
direct  commission  is  charged;  the  cost  of  the  draft  is  expressed  in 
the  number  of  dollars  obtained  by  converting  the  face  amount  at 
a  rate  of  exchange  sufi&ciently  high  to  include  commission. 

The  rates  of  conversion  for  foreign  currency  drafts  are  fixed 
by  the  foreign  exchange  traders  of  the  bank.  For  large  drafts 
individual  quotations  are  made;  for  small  ones  the  rates  are 
furnished  to  the  employees  on  a  daily  rate  sheet.  The  foreign  ex- 
change traders  of  the  bank  also  determine  which  of  its  correspon- 
dents are  to  be  drawn  upon.  In  the  case  of  large  items  the  traders 
are  consulted  as  to  the  disposition  of  each  one ;  but  for  small  items 
the  employees  making  up  the  drafts  follow  their  own  judgment, 
subject  to  instructions  which  are  furnished  at  intervals  by  the 
traders,  indicating  the  banks  that  are  to  be  drawn  upon  during  the 
ensuing  week.  A  report  showing  the  volume  of  drafts  and  letter 
transfers  drawn  on  each  correspondent  is  furnished  to  the  traders, 
so  that  they  may  avoid  the  risk  of  making  overdrafts  on  some 
correspondents  while  the  balances  in  other  banks  near  at  hand 
remain  relatively  large. 


CHAPTER  XV 

SELLING    EXCHANGE— TRAVELERS'    CREDITS     AND 
COMMERCIAL  CREDITS 

Travelers'  Letters  of  Credit. — A  third  group  of  transactions 
which  deplete  the  bank's  stock  of  exchange  (see  page  224)  are 
those  connected  with  the  issue  of  travelers'  letters  of  credit  and 
travelers'  checks.  A  travelers'  letter  of  credit  (Form  21)  is  an 
instrument  drawn  by  a  bank,  which  authorizes  certain  of  its 
correspondents  to  advance  funds  up  to  a  specified  amount  on  the 
demand  of  a  designated  beneficiary.  The  method  by  which  the 
beneficiary  usually  obtains  funds  in  such  case  is  by  drawing  a 
draft  on  the  issuing  bank  or  on  certain  of  its  correspondents  and 
collecting  on  this  draft  from  some  bank  where  he  happens  to  be 
when  he  needs  the  funds.  The  letter  of  credit  is  therefore  in  effect 
an  authorization  to  draw  drafts  in  instalments  against  the  issuing 
bank.  Such  drafts  are  sometimes  also  termed  "circular  letters 
of  credit."  They  differ  from  the  commercial  letters  of  credit 
or  commercial  credits  chiefly  because  of  the  fact  that  the  latter 
are  used  to  finance  the  exportation  and  importation  of  commodi- 
ties. 

Travelers'  Checks. — A  travelers'  check  (Form  22)  is  a  special 
form  of  cashier's  check  adapted  to  the  use  of  travelers.  Such 
checks  differ  from  the  ordinary  cashier's  check,  however,  first, 
because  they  are  issued  in  specified  denominations  such  as  $25, 
$50,  or  $100;  whereas  cashier's  checks  are  issued  for  any  amounts 
that  may  be  requested  and  not  necessarily  even  amounts.  An- 
other distinction  is  that  the  travelers'  check  contains  a  specimen 
of  the  signature  of  the  owner,  whereas  the  cashier's  check  does 
not.    The  buyer  of  a  travelers'  check  signs  it  in  the  presence  of  an 

233 


234 


BANKING  PRACTICE 


[XV 


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Form  21(a).     Travelers'  Letter  of  Credit  (face).    (Size  8>^  x  11.) 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  235 

officer  of  the  issuing  bank  when  he  buys  the  check,  and  it  is 
validated  by  his  signing  it  a  second  time  in  the  presence  of  the 
person  who  is  to  cash  it.  If  the  signatures  agree,  this  fact  is 
presumed  to  establish  the  identity  of  the  beneficiary  and  his 
right  to  cash  the  check.  A  third  difference  between  a  travelers' 
check  and  the  circular  letter  of  credit  or  the  travelers'  letter  of 


Form  21  (b).     Travelers'  Letter  of  Credit  (reverse). 

credit  is  that  each  travelers'  check  is  payable  as  a  whole,  while  a 
letter  of  credit  is  payable  in  instalments  according  to  the  wishes 
of  the  beneficiary.  A  travelers'  check  may  be  described  as  a  type 
of  bank  note  which  is  worthless  until  the  owner  has  counter- 
signed it. 

The  two  instruments  described  above  are  in  wide  demand 
both  for  domestic  and  foreign  travel.  They  offer  a  convenient 
and  safe  method  for  travelers  to  carry  the  money  which  they 
expect  to  need  during  the  journey.  It  is  usually  a  difficult  matter 
for  an  individual  to  have  his  checks  cashed  at  a  distance  from  his 
home,  and  if  he  is  traveling  in  a  foreign  country  this  method  of 
obtaining  funds  is  of  course  impracticable.  Travelers'  checks 
and  letters  of  credit,  however,  may  be  used  in  practically  all 
parts  of  the  world.  So  far  as  the  issue  of  letters  of  credit  and 
travelers'  checks  to  be  used  within  the  country  is  concerned,  a 
large  number  of  banks  have  facilities  for  selling  them;  but  only  a 
comparatively  few  metropolitan  banks  possess  facilities  for  the 
issue  of  letters  of  credit  and  checks  to  be  used  in  foreign  countries. 


236 


BANKING  PR^\CTICE 


[XV 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  237 

The  principal  New  York  banks,  especially,  handle  a  large  amount 
of  the  business  for  the  smaller  interior  banks. 

Examples  of  Use  of  Letters  of  Credit. — The  use  of  a  letter  of 
credit  may  be  thus  illustrated:  Suppose  a  traveler  holding  a 
dollar  letter  of  credit  of  a  New  York  bank  needs  funds  when  he 
has  reached  Naples.  The  correspondent  in  that  city,  as  named  in 
the  list  of  correspondents  of  the  issuing  bank  given  with  the 
letter,  is,  say,  the  Banca  Commercial  Italiana.  The  traveler 
presents  the  letter  at  that  bank  and  requests  payment  of  $100. 
The  Italian  banker  prepares  a  draft  of  $100  on  the  New  York 
bank  and  has  the  holder  of  the  letter  sign  it.  The  traveler  writes 
his  signature  in  the  presence  of  an  oflficer,  who  compares  it  with 
the  signature  which  the  holder  of  the  letter  inscribed  upon  his 
Hst  of  correspondents  when  that  list  was  issued  to  him  by  the 
New  York  bank.  If  the  signature  is  satisfactory  the  Italian  bank 
pays  the  equivalent  of  $100  in  Italian  currency,  at  the  prevail- 
ing rate  for  sight  drafts  on  New  York.  A  record  of  the  pay- 
ment is  made  on  the  reverse  side  of  the  letter  and  thus  the 
document  constantly  shows  the  balance  remaining  to  be  drawn. 
The  draft  is  then  sent  by  the  Italian  bank  to  its  correspondent 
in  New  York  or  to  the  issuing  bank  itself  for  collection  and 
credit. 

In  case  the  credit  issued  is  in  terms  of  sterling  and  the  traveler 
desires  £100,  the  Italian  banker  prepares  the  draft  for  this 
amount  to  his  order  on  the  reimbursing  London  bank  named  in 
the  letter  of  credit.  He  then  pays  the  traveler  in  Italian  money 
the  equivalent  of  £100  at  the  prevailing  rate  for  sight  drafts  on 
London.  The  draft  on  London  is  sent  by  the  Italian  bank  to  its 
London  correspondents  for  collection  and  credit.  The  London 
bank  compares  it  with  the  signature  and  information  which  it 
received  from  the  issuing  bank  after  the  letter  of  credit  was  sold, 
and  if  these  details  are  satisfactory  the  draft  is  paid  and  charged 
to  the  account  of  the  American  bank. 


238  BANKING  PRACTICE  [XV 

Advantages  of  Travelers'  Checks. — While  a  letter  of  credit  is 
honored  usually  only  by  the  correspondents  named  in  the  list 
which  accompanies  it,  travelers'  checks  are  freely  accepted  by 
banks,  hotels,  railroads,  and  business  houses  throughout  the 
world.  At  the  time  of  purchasing  the  checks  the  owner  signs  all 
of  them  in  the  upper  left-hand  corner.  When  he  wishes  to  obtain 
funds  he  again  signs  the  check  to  be  cashed  in  the  lower  left-hand 
corner  in  the  presence  of  the  person  who  is  to  pay  it.  If  the 
signatures  agree  it  is  perfectly  safe  for  anyone  to  advance  the 
funds.  It  is  apparent  that  the  counter-signature  of  the  holder 
should  not  be  placed  upon  the  check  until  he  wishes  to  use  it  and 
then  only  in  the  presence  of  the  person  who  is  to  cash  it. 

Expiration  and  Renewal  of  Letters  of  Credit. — When  the 
holder  of  a  letter  of  credit  has  drawn  all  the  funds  called  for  by 
such  letter,  the  bank  cashing  the  last  draft  retains  the  letter  and 
forwards  it,  attached  to  that  draft,  to  the  American  bank;  there 
the  letter  is  filed.  The  letters  run  for  a  definite  period  of  time 
and  usually  expire  when  this  time  has  elapsed.  When  expired  or 
exhausted  letters  of  credit  are  returned  to  the  issuing  bank,  they 
are  canceled  and  filed.  An  expired  letter  of  credit  may  be  re- 
newed upon  the  application  of  the  holder  if  the  issuing  bank  is 
willing,  but  the  applicant  is  required  to  sign  an  application  and  to 
submit  the  same  information  and  guarantees  that  were  required 
for  the  original  issue. 

Lost  Letters  of  Credit  and  Travelers'  Checks. — If  a  traveler 
loses  a  letter  of  credit  he  follows  the  directions  given  with  the  list 
of  correspondents.  The  procedure  varies  somewhat  with  the 
type  of  letter  involved,  but  to  stop  payment  on  the  letter  cable 
messages  must  be  transmitted  between  the  beneficiary  and  the 
issuing  bank,  and  between  the  issuing  bank  and  correspondents. 
Such  communication  involves  considerable  cost  for  cabling, 
amounting  to,  say,  from  $50  to  $75.    If  a  travelers'  check  is  lost, 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  239 

the  owner  notifies  the  issuing  bank  or  the  bank  through  which 
he  purchased  the  check,  making  apphcation  for  reimbursement 
for  the  amount  lost.  He  must  then  sign  an  indemnity  bond, 
agreeing  on  his  side  to  reimburse  the  issuing  bank  for  any  loss 
which  it.  may  incur  through  being  obliged  to  pay  the  lost  check. 
When  the  issuing  bank  is  satisfied  as  to  its  protection  in  this 
manner,  the  face  amount  of  the  lost  check  is  returned  to  the 
owner..  Payment  is  stopped  on  the  lost  check,  as  in  the  case  of  an 
ordinary  check.  If  the  check  is  presented  for  payment,  the  issu- 
ing bank  refuses  to  honor  it,  provided  the  transaction  can  be 
traced  to  the  correspondent  which  paid  the  check  without  exer- 
cising proper  dihgence.  The  correspondent  must  then  look  for 
recovery  of  the  amount  from  the  person  who  cashed  the  lost 
check. 

Types  of  Credits  and  Checks. — There  are  several  types  of 
letters  of  credit  and  travelers'  checks.  Letters  of  credit  are  issued 
either  as  dollar  credits  or  as  foreign  currency  credits.  A  dollar 
credit  authorizes  the  holder  to  draw  drafts  in  dollars,  while  a 
foreign  currency  credit  authorizes  him  to  draw  in  the  currency  of 
some  foreign  country.  Formerly  sterling  credits  were  used  almost 
exclusively  by  Americans  traveling  abroad,  because  sterling  drafts 
could  be  cashed  at  the  best  rates.  In  recent  years,  however,  dollar 
credits  have  become  much  more  generally  used  by  the  American 
traveler.  Travelers'  checks  are  issued  in  American  currency,  and 
are  convertible  in  normal  times  into  foreign  currencies  at  fixed 
rates  of  exchange.  When  the  rate  of  exchange  fluctuates  con- 
siderably, they  are  made  convertible  at  the  prevailing  rate  for 
sight  drafts  on  New  York. 

Paid  Credits  and  Guarantee  Credits. — Letters  of  credit  may 
be  issued  also  in  other  forms,  according  to  the  wish  of  the  holder 
or  the  method  of  paying  the  issuing  bank.  Thus  a  letter  of  credit 
may  be  a  paid  credit,  or  a  guaranteed  credit. 


240  BANKING  PRACTICE  I XV 

A  paid  credit  is  issued  for  cash  or  its  equivalent.  The  cost  of 
such  a  credit  is  the  face  amount  of  the  dollar  instrument,  or,  in 
the  case  of  a  foreign  currency,  the  dollar  equivalent  of  the  foreign 
currency,  converted  at  the  current  rate  of  exchange.  In  each 
case  there  is  added  to  this  face  amount  a  commission,  customarily 
^  per  cent. 

In  the  issue  of  a  guaranteed  credit  the  applicant  for  the  credit 
pays  the  issuing  bank  only  when  the  bank  actually  makes  outlays 
to  meet  drafts  drawn  on  the  credit.  The  buyer  of  such  a  credit 
furnishes  a  written  guarantee  that  he  will  pay  the  drafts  as  they 
are  presented.  The  charges  for  credits  of  this  kind  are  the  face 
amount  of  the  separate  drafts  plus  the  usual  commission.  In 
issuing  foreign  currency  credits  which  authorize  drafts  to  be 
drawn  on  foreign  banks,  the  American  bank  adds  an  interest 
charge  at  a  specified  rate,  for  the  number  of  days  required  for  the 
draft  to  reach  New  York  from  the  place  of  business  of  the  drawee 
bank.  The  reason  for  this  interest  charge  is  that,  whereas  the 
drawee  bank  debits  the  account  of  the  issuing  bank  at  the  time  of 
paying  the  draft,  the  issuing  bank,  however,  does  not  reimburse  it- 
self from  the  guarantee  until  after  the  draft  has  reached  New  York. 
The  interest  charge  is  designed  to  pay  for  the  use  of  the  funds 
between  the  time  the  American  bank  makes  the  advance  abroad 
and  the  time  when  it  collects  the  amount  advanced  from  the 
guarantor  in  America. 

Collateral  Credits. — Another  basis  upon  which  letters  of  credit 
are  issued  is  the  deposit  of  collateral  with  the  issuing  bank^  This 
transaction  is  very  similar  to  the  guaranteed  credit,  and  reim- 
bursement to  the  bank  is  made  in  a  similar  manner.  The  chief 
difference  is  that  the  holder  of  the  letter  furnishes  collateral  in 
the  form  of  securities  to  support  his  guarantee.  Letters  of  credit 
may  thus  be  paid  for  by  the  applicant  either  in  advance  or  in 
instalments  as  the  money  is  drawn,  whereas  travelers'  checks  are 
always  issued  for  cash. 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  241 

Specially  Advised  Credit  and  Circular  Credit. — Letters  of 
credit  may  be  classified  further  according  to  the  arrangement  in 
effect  between  the  issuing  and  paying  bank  or  banks.  Thus  the 
credit  may  be  either  "specially  advised,"'  "circular,"  or  a  "clean" 
credit.  A  specially  advised  letter  of  credit  is  addressed  to  one 
particular  bank.  The  holder  is  able  to  secure  funds  only  from 
such  bank.  If  the  holder  expects  to  remain  in  one  place  for  a 
considerable  length  of  time  while  abroad  this  form  is  advanta- 
geous, because  if  such  a  letter  should  be  lost  payment  can  readily 
be  stopped,  inasmuch  as  there  is  only  one  place  where  payment 
can  be  obtained. 

A  circular  letter  of  credit  involves  three  parties  or  groups  of 
parties  so  far  as  the  banks  are  concerned,  viz.,  the  issuing  bank, 
the  drawee  bank,  and  the  listed  correspondents.  Under  this  form 
of  letter  the  holder  is  given  the  choice  of  drawing  drafts  upon  any 
of  the  drawee  banks  mentioned  in  the  letter.  These  names 
generally  include  one  or  more  of  the  large  correspondents  of  the 
issuing  bank  in  London,  Paris,  and  Berlin.  If  the  item  is  a  dollar 
credit,  the  drafts  are  to  be  drawn  upon  the  issuing  American  bank 
itself. 

The  list  of  correspondents  comprises  those  banks  which  will 
act  as  agents  to  cash  such  drafts  as  the  traveler  may  find  it  con- 
venient to  make.  The  names  of  the  correspondents  are  recorded 
in  a  booklet  which  accompanies  the  letter  of  credit.  If  the  letter 
is  addressed  to  all  the  foreign  correspondents  of  a  large  bank, 
covering  practically  all  the  nations  of  the  world,  it  is  termed  a 
"universal"  letter  of  credit.  Usually  the  bank  obtains  a  list  of 
countries  which  the  traveler  expects  to  visit  and  it  then  furnishes 
a  list  of  correspondents  containing  only  those  foreign  banks  upon 
which  the  traveler  is  hkely  to  call  for  funds. 

Clean  Credits. — A  clean  credit  is  similar  to  a  travelers'  credit. 
A  credit  of  this  sort  is  usually  opened  by  cable  with  one  corre- 
spondent, and  is  a  request  to  this  correspondent  to  honor  sight 
Id 


242  BANKING  PRACTICE  [XV 

drafts  drawn  by  the  beneficiary  up  to  the  amount  of  the  credit. 
This  form  of  credit  is  very  similar  to  a  deposit  account  opened  by 
an  American  bank  for  its  customer  with  a  foreign  bank.  An 
American  bank  naturally  prefers  the  clean  credit  to  the  deposit 
account,  inasmuch  as  in  the  case  of  the  deposit  the  foreign  bank 
has  the  use  of  the  funds  until  they  are  drawn,  whereas  under  the 
clean  credit  either  the  American  bank  or  the  customer  has  the  use 
of  the  money.  A  clean  credit  may  be  payable  in  instalments  at 
the  convenience  of  the  customer,  or  payments  may  be  restricted 
to  specified  amounts  periodically.  These  periodical  payments 
may  be  cumulative  or  non-cumulative. 

In  so  far  as  the  relations  between  the  issuing  bank  and  the 
paying  banks  are  concerned,  travelers'  checks  are  very  similar 
to  dollar  circular  credits  in  that  they  are  drawn  on  the  issuing 
bank  and  are  negotiable  with  all  its  correspondents.  No  special 
list  of  correspondents  is  given  with  travelers'  checks  inasmuch  as 
the  form  of  the  instrument  insures  wide  acceptability.  Both 
letters  of  credit  and  travelers'  checks  reduce  the  stock  of  exchange 
which  the  American  bank  has  accumulated,  since  the  correspond- 
ent banks  in  foreign  countries  must  be  reimbursed  for  payments 
made  by  them,  either  by  a  charge  to  the  American  bank's  deposit 
account  or  by  remittances  from  time  to  time  of  foreign  bills 
forwarded  by  the  American  bank. 

Application  for  Letter  of  Credit. — When  a  customer  desires 
to  obtain  a  letter  of  credit,  he  makes  a  formal  application  stating 
the  name  of  the  beneficiary,  the  amount  of  the  credit,  the  date  of 
expiration,  and  the  countries  or  cities  in  which  the  credit  is  to  be 
used.  The  applicant  agrees  that  in  case  the  letter  is  lost,  im- 
mediate notice  to  that  effect  will  be  given  by  telegram.  He  agrees 
further  that  he  will  immediately  reimburse  the  bank  for  all  ex- 
penses incurred  in  connection  therewith,  and  for  all  payments 
made  under  the  letter  of  credit  before  actual  notice  of  loss  is 
received  by  the  agent  making  such  payments.   The  application 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  243 

also  states  the  method  which  is  to  be  used  in  paying  the  bank,  and 
the  applicant  submits  specimen  signatures  of  the  beneficiary. 

If  the  applicant  desires  a  guaranteed  letter  of  credit,  the  credit 
rating  of  the  guarantor  is  important.  This  rating  must  be  passed 
upon  by  the  credit  man  of  the  bank  and  by  the  proper  officer  be- 
fore the  letter  can  be  issued.  If  the  applicant  pays  cash,  this  of 
course  is  unnecessary. 

After  the  application  has  been  approved  the  letter  of  credit  is 
prepared  on  regular  forms,  specifying  the  amount,  the  date  of 
issue,  the  name  of  the  beneficiary,  and  the  expiry  date — which  is 
usually  one  year  from  that  of  issue.  The  fist  of  correspondents  is 
furnished,  and  this  contains  a  specimen  of  the  holder's  signature, 
constituting  his  means  of  identification.  If  the  application  is  for 
a  guaranteed  credit  the  customer  is  required  to  sign  the  guarantee. 

How  Travelers'  Checks  Are  Issued. — The  issuance  of  travel- 
ers' checks  is  a  simpler  matter  since  they  are  issued  in  exchange  for 
cash.  The  purchaser  merely  fills  out  an  order  form  specifying  the 
amounts  and  denominations  of  checks  he  desires,  and  signs  his 
name.  He  inscribes  his  signature  in  the  upper  left-hand  corner  of 
each  check  immediately  so  as  to  protect  himself  in  case  he  loses 
the  checks. 

Letter  of  Credit  Service  to  Country  Banks. — Since  the  de- 
mands upon  most  of  the  smaller  banks  throughout  the  country 
for  letters  of  credit  and  travelers'  checks  are  not  large  enough  to 
make  it  worth  while  to  issue  their  own  forms,  many  of  these  banks 
rely  on  the  facilities  of  large  city  correspondents.  For  example,  a 
city  correspondent  may  send  to  its  country  correspondents  a 
supply  of  travelers'  checks  and  letters  of  credit,  which  the  coun- 
try banks  hold  under  a  trust  receipt.  The  letters  of  credit  are 
already  signed,  numbered,  and  stamped  with  the  maximum 
amount  for  which  they  may  be  drawn.  When  the  country  bank 
issues  such  a  letter  of  credit  it  advises  the  city  correspondent  of 


244  BANKING  PRACTICE  [XV 

the  fact  and  sends  along  with  the  advice  specimen  signatures  oi 
the  beneficiary,  together  with  its  guarantee  and  a  check  or  in- 
structions to  charge  its  account  for  the  amount  issued.  When 
travelers'  checks  are  sold  the  country  bank  also  advises  the  city 
correspondent  of  the  sale.  The  advice  contains  the  name  of  the 
bank  making  the  sale,  the  name  of  the  purchaser,  the  numbers 
appearing  on  the  checks  sold,  and  a  remittance  for  the  amount. 

Foreign  Currency  Letters  of  Credit. — When  letters  of  credit 
drawn  in  foreign  currency  are  issued,  it  is  necessary  for  the  Amer- 
ican bank  to  advise  the  foreign  banks  of  the  issuance  of  such 
letters,  inasmuch  as  these  documents  require  that  drafts  be 
drawn  on  certain  foreign  banks.  The  issuing  bank  therefore 
furnishes  its  foreign  correspondents  periodically  with  information 
of  the  issuance  of  such  letters,  so  that  they  may  know  when  to 
expect  drawings.  The  advice  gives  details  as  to  the  various 
letters  of  credit  issued  and  is  accompanied  by  specimen  signatures 
of  the  beneficiaries. 

Cashing  Credits  and  Checks — The  Bank's  Responsibility. — 

Letters  of  credit  and  travelers'  checks  having  been  issued,  there 
remains  for  the  bank  of  issue  the  task  of  paying  for  them  as  they 
are  cashed.  Drafts  drawn  under  letters  of  credit  come  to  the 
bank  from  abroad  in  the  usual  manner  of  foreign  collections  and 
deposits.  When  they  are  received  these  instruments  are  com- 
pared with  the  bank's  records  and,  if  found  correct,  drafts  drawn 
under  a  paid  letter  of  credit  are  charged  to  the  Cash  Letters  of 
Credit  account,  thus  reducing  the  bank's  liability  under  these 
instruments.  If  the  draft  is  drawn  under  a  guaranteed  credit  the 
guarantor  is  expected  to  pay  the  amount.  Accordingly  a  bill  is 
sent  to  the  guarantor  for  the  face  of  the  draft  plus  interest  and 
commission  charges;  or  if  he  has  an  account  with  the  bank,  this 
account  is  debited  and  he  is  advised  of  the  fact. 

Travelers'  checks  return  to  the  bank  either  directly  from  out- 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  245 

of-town  banks  or  through  the  clearing  house.  They  are  com- 
pared with  the  bank's  records  and,  if  satisfactory,  the  Travelers' 
Check  account  is  debited  for  the  amount. 

Import  Commercial  Credits. — The  fourth  group  of  transac- 
tions which  make  demands  upon  the  stock  of  exchange  owned  by 
an  American  bank  (see  page  224)  are  those  which  grow  out  of 
import  commercial  credits.  The  general  nature  and  purpose  of 
commercial  credits  has  been  discussed  in  Chapter  XIII.  Import 
commercial  credits,  it  will  be  recalled,  are  credits  which  are 
arranged  by  American  banks  for  American  importers  who,  by 
their  importations  of  commodities,  incur  the  obligation  to  pay 
sums  of  money  abroad.  The  characteristic  feature  of  the  trans- 
action is  that  the  American  bank  assumes  the  obligation  of  paying 
to  the  foreign  seller  the  amount  due  from  the  American  importer 
— looking  to  the  importer  for  reimbursement. 

An  import  commercial  credit  reduces  the  foreign  balance  of 
an  American  bank,  since  the  letter  of  credit  usually  authorizes 
the  foreign  creditor  to  draw  drafts  on  the  correspondent  of  the 
American  bank  in  some  foreign  center;  and  the  bank  then  either 
suffers  a  depletion  of  its  balance,  if  it  happens  to  have  a  balance 
with  the  drawee  bank,  or  falls  under  the  necessity  of  remitting 
exchange  to  such  bank.  Later  the  American  bank  recovers  the 
amount,  as  already  noted,  from  the  American  importer,  so  that 
in  essence  what  the  American  bank  does  is  to  exchange  funds  in 
its  possession  abroad  for  funds  paid  to  it  at  home. 

The  Process  of  Granting  an  Import  Credit. — The  handling  of 
import  commercial  credits  includes  such  operations  as: 
Passing  upon  the  credit  rating  of  the  importer. 
Making  arrangements  with  the  applicant  as  to  terms  of  the 

credit. 
Making  arrangements  with  the  foreign  correspondent  to 
pay  or  accept  the  draft  of  the  exporter. 


246"  BANKING  PRACTICE  [XV 

Receiving  documents  from  abroad  based  on  import  ship- 
ments. 
Releasing  documents  to  importers. 
Collecting  from  the  importers. 
Making  settlement  with  the  paying  or  accepting  bank. 

The  Credit  Rating  of  the  Applicant. — The  first  step  to  be  taken 
when  an  application  for  an  import  commercial  credit  is  made,  is  to 
pass  upon  the  credit  rating  of  the  applicant.  This  is  essential; 
the  bank  is  going  to  guarantee  to  honor  drafts  if  drawn  in  accord- 
ance with  the  terms  of  the  credit  and  must  rely  on  the  importer 
to  make  payment. 

The  next  step  consists  of  drawing  up  the  agreement  between 
the  bank  and  its  customer.  This  document  states  whether  the 
drafts  are  to  be  drawn  in  dollars  or  in  foreign  currency,  and  is 
evidence  of  the  fact  that  the  applicant  agrees  to  furnish  the  bank 
with  funds  at  least  one  day  before  the  maturity  of  dollar  drafts 
drawn  under  the  credit;  and  twelve  days  before  the  maturity  of 
foreign  currency  drafts  if  he  agrees  to  pay  at  the  check  rate,  or 
one  day  before  maturity  if  he  agrees  to  pay  at  the  cable  rate.  The 
apphcant  gives  a  lien  on  the  goods  covered  by  the  credit,  and 
agrees,  if  requested,  to  give  security  before  the  bank  surrenders 
documents  representing  the  merchandise  imported. 

Advice  to  Foreign  Bank. — The  letter  of  credit  is  then  prepared 
and  the  foreign  bank  which  is  to  act  as  the  paying  or  accepting 
agent  is  advised  either  by  formal  letter  or  by  cable  of  the  issue  of 
the  letter  and  of  its  terms.  The  foreign  bank  notifies  its  customer 
that  a  credit  has  been  opened  in  his  favor.  The  foreign  exporter 
then  proceeds  to  draw  his  draft  and  to  dispose  of  it  through  his 
bank  and  the  local  money  market. 

The  commodities  are  prepared  for  shipment  and  the  shipping 
documents  are  attached  to  the  draft  in  conformity  with  the  terms 
of  the  credit.    These  documents  are  forwarded  to  the  American 


XVI  TRAVELERS'  AND  COMMERCIAL  CREDITS  247 

bank  where  they  are  examined  with  great  care  to  see  that  the 
shipment  corresponds  with  the  terms  of  the  credit.  Since  the 
American  bank  is  to  act  as  the  paying  agent  for  its  customer,  it  is 
required  to  follow  carefully  his  instructions  as  embodied  in  the 
letter  of  credit.  When  the  bank  is  satisfied  that  the  shipment  is  as 
expected,  it  reimburses  the  foreign  bank  for  its  payment. 

Settlement  between  the  Banks. — Reimbursement  may  take 
the  form  of  authorizing  the  foreign  paying  bank  to  charge  the 
account  of  the  American  bank,  or  it  may  be  effected  by  a  remit- 
tance of  exchange.  Under  the  majority  of  dollar  credits  reim- 
bursement is  made  by  accepting  time  drafts.  In  fact,  foreign 
trade  transactions  are  the  chief  source  of  bankers'  acceptances 
in  the  United  States.  Under  this  method  the  bank  does  not  ad- 
vance any  money  for  the  customer  but  merely  agrees  to  accept  a 
draft  drawn  upon  it.  When  this  has  been  accepted,  the  draft  is 
discounted  and  held  until  it  matures.  By  that  time  funds  from 
the  importer  are  in  the  possession  of  the  bank  and  with  these  it 
pays  its  acceptance. 

In  the  case  of  all  import  credit  transactions,  whether  issued  in 
dollars  or  in  foreign  currency,  the  documents  are  carefully 
guarded  inasmuch  as  they  give  protection  to  the  bank  for  the 
ultimate  payment  of  the  credit  by  giving  it  control  of  the  mer- 
chandise shipped.  As  the  importer  naturally  desires  to  get  pos- 
session of  the  goods,  so  that  he  can  dispose  of  them  and  obtain 
the  funds  with  which  to  reimburse  the  bank,  the  documents  are 
delivered  to  him  under  a  trust  receipt.  This  gives  the  bank  a 
prior  lien  on  the  shipment  as  security  until  the  importer's  pay- 
ment has  been  made. 

If  the  customer's  application  for  a  commercial  credit  is  guar- 
anteed by  another  bank,  the  issuing  bank  frequently  releases  the 
documents  on  the  strength  of  such  guarantee,  without  requiring 
a  trust  receipt  to  be  executed.  If  the  transaction  involves  a 
dollar  credit  and  the  bank's  advance  consists  of  an  acceptance 


248  BANKING  PRACTICE  [XV 

running  for  some  time,  this  acceptance  is  paid  off  by  the  American 
bank  in  the  usual  manner.  If  it  has  been  held  by  some  bank  in  the 
locality  of  the  issuing  bank,  it  may  be  collected  through  the  clear- 
ing house  at  maturity.  It  may  come  in  for  payment  through  the 
mail  or  over  the  counter,  or  it  may  be  handled  through  the  col- 
lection or  transit  departments  of  the  bank. 

Liability  Records  Kept  for  Each  Customer. — The  issuing  bank 
keeps  a  careful  record  of  the  liability  of  each  customer,  showing 
the  total  number  and  amount  of  credits  issued  for  him  as  well  as 
the  payments  that  have  been  made  thereunder.  Since  the  bank 
has  guaranteed  to  make  payments  for  these  accounts,  the  unused 
balance  on  each  credit  constitutes  a  contingent  liability  of  the 
bank.  Records  are  also  kept  of  the  full  details  of  each  letter  of 
credit  and  of  every  drawing  under  it. 

Since  these  operations  involve  the  use  of  the  bank's  supply  of 
exchange  at  one  time  or  another,  a  list  is  compiled  showing  the 
requirements  for  foreign  exchange  for  some  weeks  in  advance. 
This  list  is  used  by  the  foreign  exchange  dealers  of  the  bank  to 
enable  them  to  ascertain  their  position  and  to  make  provision  for 
a  supply  of  exchange  when  needed. 

Summary. — The  four  groups  of  transactions  discussed  in  this 
and  the  preceding  chapter  all  call  for  sales  of  exchange.  How  this 
exchange  is  accumulated  by  American  banks  is  described  in 
Chapters  XII  and  XIIL  In  transactions  involving  import  collec- 
tions, the  American  bank  collects  for  foreign  correspondents  items 
which  are  payable  in  the  United  States.  In  settling  with  the 
foreign  collecting  agent  the  American  bank's  account  with  some 
foreign  bank  is  depleted.  Funds  are  received  in  America,  and  in 
exchange  funds  are  made  available  abroad.  In  selling  foreign 
drafts,  cable  transfers,  and  letter  transfers  the  American  bank 
also  gives  funds  deposited  in  foreign  banks  in  exchange  for  money 
received  in  the  United  States.     Letters  of  credit  and  travelers' 


XV]  TRAVELERS'  AND  COMMERCIAL  CREDITS  249 

checks  in  effect  give  permission  to  the  holders  to  draw  upon  the 
foreign  balances  of  the  American  bank,  and  in  exchange  it  re- 
ceives local  funds.  Finally,  import  commercial  credits  deplete  the 
foreign  deposit  balances  of  American  banks,  because  they  author- 
ize foreign  sellers  of  goods  to  Americans  to  draw  on  the  foreign 
accounts  of  American  banks  in  settlement  of  these  commercial 
debts. 


f 


CHAPTER    XVI 
EXTENDING   CREDIT 

Credit  Defined. — One  of  the  most  important  functions  of  the 
modern  bank  is  the  manufacture  of  credit.  Credit  might  be 
defined  as  the  privilege  of  immediate  use  of  economic  goods, 
granted  in  exchange  for  the  promise  to  return  goods  of  an 
equivalent  value  in  the  future;  or  it  might  be  put  more  briefly 
as  the  exchange  of  present  goods  for  future  goods.  Credit  is 
one  of  the  media  of  exchange.  A  simple  example  will  make  this 
clear. 

An  individual  goes  to  a  merchant  and  buys  a  quantity  of  goods 
for  which  he  agrees  to  pay  at  some  time  in  the  future.  The  mer- 
chant has  thus  exchanged  his  present  goods  for  the  promise  on 
the  part  of  the  buyer  to  return  to  him  an  equivalent  amount  of 
goods  in  the  future.  This  is  manifestly  a  credit  purchase  and  the 
merchant  may  be  regarded  as  extending  credit.  To  go  back  of 
this  transaction  and  consider  the  purchase  of  these  goods  made 
originally  by  the  merchant,  it  will  be  found  that  in  the  majority 
of  cases  that  also  is  a  credit  transaction. 

The  merchant  buys  a  stock  of  goods  from  a  jobber  or  whole- 
saler, but  at  the  time  has  not  the  money  to  pay  for  them.  The 
jobber  or  wholesaler,  however,  needs  his  money  in  order  to  obtain 
another  supply  of  goods  himself.  The  merchant  goes  to  his  bank 
and  borrows  a  sufficient  sum  of  money  to  pay  for  his  goods,  giving 
his  promise  to  the  banker  to  repay  him  an  equivalent  amount  of 
goods  in  the  future.  The  banker  has  in  this  case  exchanged  present 
goods,  money — or  its  equivalent,  an  entry  on  his  ledger  in  favor 
of  the  borrower — for  the  promise  on  the  part  of  the  merchant  to 
return  an  equivalent  amount  of  money  in  the  future.  The  banker 
has  thus  extended  credit. 

250 


XVI]  EXTENDING  CREDIT  25I 

Credit  Involves  Risk  as  Well  as  Futurity. — Every  credit 
transaction  involves  futurity  and  hence  involves  a  certain  amount 
of  uncertainty.  The  merchant  who  sells  goods  on  credit  and  the 
banker  who  extends  credit  to  the  merchant,  both  relying  on 
repayment  in  the  future,  are,  it  might  be  said,  relying  on  uncer- 
tainties, since  the  developments  of  the  future  are  always  uncer- 
tain. But  in  each  case  the  person  who  extends  the  credit  seeks 
to  reduce  the  uncertainty  as  much  as  possible — to  eliminate  all 
the  known  elements  which  make  it  unlikely  that  he  will  receive 
his  payment  in  the  future.  Hence  the  granting  of  credit  calls  for 
expert  knowledge  of  conditions  and  complete  information  regard- 
ing the  beneficiary  of  the  credit. 

The  Bank  as  a  Credit-Making  Machine. ^ — It  has  been  said 
that  modern  banks  manufacture  credit.  The  word  "manufac- 
ture" is  used  here  in  a  somewhat  figurative  sense,  to  indicate  that 
banking  facilities  and  machinery  increase  the  stock  of  credit,  or 
rather  they  increase  the  velocity  of  the  circulation  of  credit.  An 
individual  or  an  institution  may  grant  credit  without  manufactur- 
ing it.  Thus,  if  a  bank  accumulates  deposits  of  a  million  dollars 
from  various  individuals  in  its  community  and  then  loans  the 
million  dollars  in  various  sums  to  other  individuals,  it  is  granting 
credit  and  is  acting  as  the  intermediary  between  the  borrowers 
and  the  real  lenders,  that  is,  the  depositors.  But  it  has  not  in- 
creased the  amount  of  credit  available.  It  lends  merely  the 
amount  that  has  previously  been  deposited  with  it. 

The  process  of  manufacturing  credit  consists  essentially  of 
giving  to  several  persons  the  right  to  use  the  same  funds.  This 
seems  paradoxical  but  if  one  stops  to  realize  the  manner  in  which 
the  funds  of  the  bank  are  used  it  will  not  be  so  puzzling.  Except 
in  rare  instances,  depositors  in  a  bank  do  not  use  actual  money 
for  the  settlement  of  their  commercial  transactions.  For  the 
most  part  they  effect  transfers  of  funds  by  means  of  checks,  as 
has  been  pointed  out  earlier  in  this  volume.    Funds  are  trans- 


252  BANKING  PRACTICE  [XVI 

ferred  thus  by  bookkeeping  entries,  and  cash  is  needed  only  for 
the  less  usual  transactions  in  which  depositors  actually  present 
their  checks  and  ask  for  money. 

The  Cash  Reserve. — Experience  has  shown  bankers  that  if 
they  keep  a  moderate  amount  of  cash  on  hand  they  will  always 
be  prepared  to  care  for  the  relatively  infrequent  demands  of 
customers  for  cash.  Each  banker  is  able  to  determine,  from  his 
own  experience  and  from  general  conditions  of  the  business  com- 
munity around  him,  the  amount  of  cash  which  will  suffice  for  the 
demands  of  depositors.  In  this  country,  in  order  to  assure  deposi- 
tors that  banks  will  always  have  a  sufficient  amount  to  meet  their 
requirements,  the  law  specifies  the  minimum  amount  of  cash  to 
be  kept  by  banks  in  proportion  to  deposits — which  is  known  as 
the  ''cash  reserve."  This  legal  reserve  is,  however,  only  a  mini- 
mum requirement.  Those  banks  which  are  members  of  the 
federal  reserve  system  must  keep  the  entire  legal  reserve  on 
deposit  in  the  federal  reserve  banks.  Necessarily,  therefore,  they 
carry  in  their  own  vaults  a  supply  of  cash  in  excess  of  their  legal 
reserve,  since  they  must  keep  some  supply  to  take  care  of  the 
immediate  needs  of  customers.  Thus  in  practice  each  bank 
maintains  a  total  cash  reserve  in  accordance  with  its  particular 
requirements,  as  disclosed  by  experience  rather  than  as  demanded 
by  statute. 

The  possibility  of  manufacturing  credit,  or,  as  was  said  before, 
of  giving  to  a  considerable  number  of  persons  the  right  to  use  the 
same  funds,  is  the  chief  source  of  profit  for  the  bank.  The  limits 
of  the  bank's  power  to  manufacture  credit  are  fixed  by  its  possi- 
bilities with  respect  to  a  cash  reserve. 

Economic  Importance  of  Credit  Extension. ^ — The  modern 
commercial  bank  performs  an  extremely  important  economic 
service  in  thus  increasing  the  use  of  credit.  If  one  stops  to  con- 
sider the  comparatively  small  number  of  transactions  in  which 


XVI]  EXTENDING  CREDIT  253 

cash  settlement  in  full  is  made  originally,  and  the  great  extent  to 
which  reliance  is  placed  upon  credit,  it  will  be  realized  that  any 
agency  which  makes  possible  the  increased  use  of  the  important 
tool  of  credit  is  of  inestimable  value  to  the  business  world.  Credit, 
serving  as  a  medium  of  exchange,  facilitates  the  transfer  of  goods 
from  place  to  place  and  from  person  to  person.  Anything  which 
facilitates  the  exchange  of  goods  thereby  increases  the  possibili- 
ties of  the  division  of  labor  and  as  a  result  increases  production. 
The  wants  of  modern  society  could  by  no  means  be  satisfied  if  it 
were  not  for  the  minute  division  of  the  labor  of  their  production, 
which  exists  mainly  because  of  the  facilities  for  exchange,  which 
in  turn  are  largely  dependent  upon  a  large  and  effective  use  of 
credit. 

Responsibility  of  Bankers  for  the  Use  of  Credit. — Since 
credit  enters  to  such  an  important  extent  into  industrial  and 
commercial  activities,  it  can  readily  be  seen  that  its  use  must  be 
guarded  with  great  care.  As  the  bankers  are  the  chief  custodians 
and  dispensers  of  credit,  the  responsibility  for  its  proper  use  rests 
upon  them.  If,  in  their  desire  to  increase  profits,  they  extend 
credit  too  liberally,  they  foster  an  inflation  of  the  medium  of 
exchange  which  will  have  disastrous  effects.  If  they  grant  credit 
to  those  who,  because  of  lack  of  ability  or  integrity  are  not  en- 
titled to  it,  not  only  are  those  persons  who  could  make  wise  use 
of  it  hampered  in  their  productive  activities,  but  the  borrowers 
are  likely  to  fail  to  meet  their  agreement  to  repay  their  loans  and 
thus  cause  large  losses  to  the  bank  and  to  the  community.  This 
failure  will  not  only  bring  suffering  and  hardship  upon  individuals 
who  may  lose  their  savings  through  faulty  judgment  on  the 
part  of  the  banker,  but  it  may  result,  if  these  failures  become 
numerous,  in  the  precipitation  of  a  commercial  and  industrial 
panic  or  depression,  with  all  the  accompanying  ill  effects. 

Bankers  are  entrusted  with  the  funds  of  large  numbers  of 
people,  because  they  are  presumed  to  be  honest  and  skillful  in  the 


254  BANKING  PRACTICE  [XVI 

handling  of  financial  affairs,  and  because  it  is  assumed  that  they 
have  the  facilities  for  ascertaining  the  capability  and  reliability 
of  those  who  wish  to  use  credit.  As  specialists  in  credit,  upon 
them  devolves  the  responsibility  of  safeguarding  and  directing 
its  use,  so  that  it  may  come  into  the  hands  of  those  who  will  em- 
ploy it  most  effectively. 

Character  of  a  Bank  Determined  by  Its  Credit  Relations. — 

The  manner  in  which  banks  permit  the  use  of  credit  is  determined 
to  a  very  considerable  extent  by  the  kind  of  credit  the  bank  re- 
ceives. As  previously  said,  the  bank  is  an  intermediary  or  a 
dealer  in  credit.  When  a  depositor  leaves  money  with  the  bank, 
the  bank  becomes  by  that  process  a  debtor  to  the  depositor. 
When  the  bank  in  turn  extends  credit  to  others,  these  customers 
become  debtors  to  the  bank.  Banks  receive  two  main  kinds  of  de- 
posits: demand  deposits,  or  those  which  are  payable  on  demand; 
and  time  or  savings  deposits,  those  which  are  payable  only  after 
a  specified  perio  i  of  time,  or  for  the  withdrawal  of  which  a  bank 
may  require  a  certain  number  of  days  of  advance  notice.  If  a 
bank  has  received  deposits  which  it  knows  must  be  paid  upon 
demand,  it  must  make  its  loans  to  customers  in  such  form  that  it 
may  readily  liquidate  them  to  obtain  cash  to  meet  the  demands 
upon  it.  On  the  other  hand,  if  it  has  deposits  which  are  expected 
to  remain  in  its  possession  for  long  periods,  it  will  make  long-time 
loans  or  investments.  From  this  point  of  view,  there  are  two  types 
of  bank:  the  investment  bank,  and  the  commercial  bank. 

Investment  Banks. — Investment  banks  are:  (i)  savings  banks 
which  do  not  receive  deposits  subject  to  check  and  which  there- 
fore are  able  to  make  loans  on  long-term  mortgages,  or  to  advance 
credit  to  corporations  through  the  purchase  of  bonds;  (2)  trust 
companies  and  similar  institutions  which  are  engaged  chiefly  in 
the  underwriting  of  security  issues;  (3)  specialized  investment 
banking  institutions,   organized  for   the  purpose  of  financing 


XVI]  EXTENDING  CREDIT  255 

particular  lines  of  business  activity.  Farm  loan  banks,  cattle 
loan  associations,  and  foreign  trade  promotion  banks  are  ex- 
amples of  the  third  type.  The  funds  obtained  by  the  borrowers 
from  banks  of  the  investment  type  are  used  as  fixed  capital  for 
the  purchase  of  plant,  machinery,  real  estate,  the  improvement 
of  road-bed,  and  other  permanent  betterments. 

Commercial  Banks. — The  commercial  bank,  on  the  other 
hand,  advances  credit  for  short  terms.  The  kinds  of  credit  instru- 
ments it  obtains  are  usually  promissory  notes,  running  for  not 
more  than  90  days,  and  acceptances.  The  funds  advanced  by  com- 
mercial banks  are  used  as  working  capital  or  fluid  capital  to  pur- 
chase merchandise  and  raw  material,  and  to  pay  wages  and  other 
expenses  of  production.  The  assumption  is  that  the  loans  of  a 
commercial  bank  will  be  self-liquidating — that  is,  the  money  to 
repay  such  loans  will  be  obtained  through  sales  of  goods,  services, 
or  through  other  current  operations.  Commercial  banks  may  be 
further  subdivided,  from  the  point  of  view  of  the  kinds  of  credit 
they  advance,  into  agricultural,  mercantile,  and  industrial  banks. 

The  distinction  between  savings  banks  and  commercial  banks 
has  become  somewhat  blurred  in  recent  years  because  practically 
all  the  commercial  banks,  so-called,  have  added  savings  depart- 
ments, and  in  some  states  the  title  of  "savings  bank"  is  given  to 
institutions  which  differ  in  scarcely  any  respect  from  the  usual 
commercial  bank. 

Commercial  Banks  Provide  Production  Credit. — The  kind  of 
credit  advanced  by  commercial  banks  is  usually  production 
credit,  that  is,  credit  which  is  used  for  the  production  of  addi- 
tional goods.  Such  credit  may  be  contrasted  with  consumption 
credit— credit  extended  for  the  purpose  of  purchasing  goods  for 
immediate  consumption.  Banks  prefer — and  it  is  usually  much 
more  to  the  interest  of  the  community — that  credit  be  extended 
for  production  purposes  rather  than  for  consumption  purposes. 


256  BANKING  PRACTICE  [XVI 

If  the  funds  borrowed  are  used  for  further  production,  the  pro- 
ductive process  will  yield  values  out  of  which  the  loan  can  be 
liquidated;  but  if  the  money  loaned  is  used  merely  to  purchase 
consumable  goods,  there  is  less  likelihood  that  when  the  loan 
matures  there  will  be  sufficient  funds  at  hand  to  pay  it.  While 
there  may  be  legitimate  reason  for  borrowing  temporarily  for  the 
need  of  consumption,  more  often  persons  who  borrow  for  the 
sake  of  spending  or  consuming  goods  are  regarded  as  less  desir- 
able credit  risks,  since  they  apparently  are  so  lacking  in  thrift 
and  business  judgment  as  to  live  beyond  their  means. 

The  Credit  Rating  of  the  Applicant. — The  first  step  in  lending 
the  bank's  money,  therefore,  is  the  determination  of  the  credit 
standing  of  those  who  apply  for  loans.  Formerly  lending  was 
mainly  local,  and  bank  officers  were  chosen  because  of  their 
knowledge  of  the  standing  of  prospective  local  borrowers.  With 
the  increasing  size  of  business  units,  as  typified  by  the  growth  of 
corporations,  and  with  the  more  intimate  trade  relations  between 
all  parts  of  the  country  and  all  parts  of  the  world;  and  further- 
more because  of  improvements  in  means  of  transportation  and 
communication,  extensions  of  credit  are  made  over  a  much  wider 
area  and  the  necessity  for  the  exercise  of  careful  judgment  on  the 
part  of  the  banker  has  become  even  more  imperative. 

The  standing  of  a  borrower  depends  upon  two  factors;  his 
abihty  to  pay,  and  his  willingness  to  pay.  His  ability  to  pay  is 
determined:  (i)  by  the  use  that  he  makes  of  funds  advanced  to 
him — whether  he  uses  them  wisely  and  effectively  or  not;  (2) 
and  by  the  kind  of  goods  he  is  preparing  to  market.  Certain 
staple  goods,  such  for  example  as  agricultural  products,  coal,  or 
iron  and  steel,  have  a  wide  and  ready  market  of  a  sort  which  is 
not  enjoyed  by  seasonal  goods  or  products  which  might  be  classed 
as  luxuries.  Hence,  in  advancing  credit  a  bank  tries  to  satisfy 
itself  in  advance,  so  far  as  it  possibly  can,  that  the  borrower  will 
make  wise  use  of  the  funds  and  that  he  will  produce  commodities 


XVI]  EXTENDING  CREDIT  257 

for  which  there  will  be  a  market;  thus  disposing  of  his  goods  and 
obtaining  the  money  with  which  to  pay  off  the  loan  at  maturity. 

The  second  factor  upon  which  a  borrower's  credit  rests  is  his 
willingness  to  pay.  This  depends  upon  his  integrity,  or  upon  the 
pressure  which  the  bank  can  bring  upon  him  when  his  loan  ma- 
tures. The  bank  seeks  to  advance  credit  only  to  those  of  the 
highest  standing  from  the  point  of  view  of  honesty.  Furthermore, 
whenever  possible  to  do  so,  it  prefers  to  retain  possession  of  a 
stock  of  commodities  belonging  to  the  borrower  sufficient  to  repay 
the  loan,  until  the  funds  are  actually  in  hand  to  pay  it.  The  as- 
certainment of  these  facts,  and  the  determination  of  the  credit 
standing  of  a  prospective  borrower,  require  such  careful  investiga- 
tion that  they  can  be  satisfactorily  performed  only  by  those  who 
have  become  experts  in  this  field.  It  is  the  function  of  the  credit 
department  of  a  bank  to  determine  on  this  basis  the  credit  rating 
of  those  who  are  applicants  for  loans. 

The  Credit  Department. — The  size  of  the  credit  department 
varies,  of  course,  with  the  volume  of  credit  business  handled  by 
the  bank.  The  extension  of  credit  may  be  left  to  one  or  two 
officers  in  the  case  of  a  bank  of  moderate  size,  or  in  a  bank  of  large 
size  a  separate  department  may  be  created  with  a  great  many 
employees.  In  the  largest  banks  the  work  may  be  so  heavy  as  to 
necessitate  a  division  in  the  department,  one  section  determining 
whether  credit  is  to  be  granted  and  the  other  taking  care  of  the 
transactions  after  the  general  decision  has  been  made. 

The  particular  function  of  the  credit  department  is  to  make 
investigation  regarding  credit  risks,  and  to  file  in  convenient  form 
the  information  it  obtains,  so  that  officers  of  the  bank  may  be 
able  to  estimate  the  worthiness  of  an  applicant  for  credit,  and  so 
that  the  credit  information  will  be  available  when  the  bank  is  in 
future  asked  concerning  the  credit  rating  of  one  of  its  customers. 
The  employees  in  the  credit  department  are  divided  frequently 
into  three  main  groups,  the  work  of  which  in  each  case  is:  (i)  to 
17 


258  BANKING  PRACTICE  [XVI 

gather  information,  to  put  it  into  proper  form,  and  to  keep  it  up 
to  date;  (2)  to  analyze  credit  information  in  order  to  appraise  the 
credit  standing  of  prospective  borrowers;  and  (3)  to  furnish  ser- 
vice to  the  customers  of  the  bank  by  giving  them  reliable  credit 
information. 

I.  Sources  of  Credit  Information. — Considering  first  the 
collecting  of  information,  it  may  be  said  that  there  are  six  main 
sources  of  information  regarding  the  credit  standing  of  applicants 
for  loans:  banks;  the  trade;  the  applicant  himself;  credit  agencies; 
newspaper  clippings;  and  past  relations  with  the  appHcant.  In 
using  every  available  source  of  information  the  credit  department 
of  a  bank  finds  it  extremely  valuable  to  call  upon  other  banks  for 
information  in  regard  to  the  applicant.  So  far  as  the  confidential 
nature  of  the  information  which  they  possess  permits  them  to  do 
so,  banks  in  the  United  States  exchange  credit  experiences  quite 
freely  with  each  other.  Every  bank  from  time  to  time  obtains 
credit  information  from  other  banks  through  correspondence  and 
through  personal  interviews.  Where  banks  possess  foreign 
branches  the  credit  departments  of  these  branches  are  drawn 
upon  in  regard  to  foreign  applications  for  credit. 

An  important  source  of  credit  information  consists  of  those 
who  buy  and  sell  merchandise,  or  who  have  other  business  deal- 
ings with  the  particular  person  or  prospective  customer  to  be 
investigated.  By  exchanging  information  with  the  chief  com- 
mercial concerns  in  the  country,  a  bank  is  enabled  to  obtain  very 
reliable  information  concerning  the  habits  and  the  credit  rating 
which  an  apphcant  enjoys  in  his  business  relations. 

One  of  the  most  important  sources  of  information  is  naturally 
the  applicant  himself.  It  is  the  usual  practice  for  customers 
desiring  a  line  of  credit  at  a  bank  to  give  the  bank  complete  fi- 
nancial information  about  themselves ;  and  in  many  cases  indeed 
they  seek  the  bank's  advice  as  to  how  to  improve  their  credit 
rating.    Correspondence  and  personal  interviews  are  used  to  elicit 


XVI]  EXTENDING  CREDIT  259 

the  information,  but  more  important  is  the  financial  statement 
prepared  by  the  applicant  or  his  accountants.  By  analyzing  such 
statements  and  keeping  them  on  file  the  bank  is  enabled  to  obtain 
accurate  information  as  to  the  standing  of  the  customer. 

A  source  of  credit  information  is  found  in  the  reports  fur- 
nished by  commercial  credit  agencies,  such  as  Dun's,  Bradstreet's, 
Seyd's,  and  others.  In  addition  to  this  credit  information  the 
bank  frequently  maintains  a  clipping  bureau,  which  obtains 
from  newspapers  and  periodicals  such  information  as  death 
notices,  notices  of  dissolution  of  firms,  changes  in  capitalization, 
lawsuits,  judgments,  bankruptcy  proceedings,  and  similar  data. 
Newspapers  and  trade  publications  are  read  carefully  with  the 
special  purpose  of  obtaining  information  which  may  be  of  value 
in  determining  the  amount  of  credit  to  extend  to  customers. 
Some  banks  record  facts  which  come  to  their  attention  regarding 
the  personal  life  and  habits  of  depositors  even  though  they  have 
made  no  recent  application  for  credit.  The  purpose  is  to  keep 
informed  as  fully  as  possible  regarding  the  factors  which  might 
influence  the  judgment  of  the  bank  officials  in  extending  credit. 

Finally,  the  bank  should  consider  whatever  past  relations  it 
may  have  had  with  the  applicant.  The  average  balance  of  the 
customer,  the  amount  of  borrowing  which  he  has  done  in  the  past, 
whether  or  not  he  overdraws  his  account  and  to  what  extent,  the 
profitableness  of  the  account,  the  promptness  with  which  he  has 
met  previous  obligations — all  these  data  combine  to  furnish  a 
reliable  index  as  to  the  applicant's  desirability  as  a  borrower. 

Assembling  the  Credit  Information. — From  these  various 
sources  credit  information  is  assembled  and  prepared  for  analysis. 
Sometimes  the  information  is  tabulated  on  cards  or  in  books,  but 
more  frequently  it  is  assembled  in  a  credit  folder.  The  typical 
credit  folder  consists  of  several  sections  for  the  filing  of  informa- 
tion as  enumerated  below: 

I.  The  fly  sheet  shows  the  name  and  address  of  the  appHcant; 


260  BANKING  PRACTICE  [XVI 

the  line  of  business  he  is  engaged  in;  the  date  the  account  was 
opened;  the  name  of  the  person  by  whom  the  appHcant  was  intro- 
duced; the  name  of  the  officer  who  accepted  the  account;  accounts 
maintained  with  other  banks;  the  name  of  the  note-broker,  if  any, 
through  whom  paper  is  sold  in  the  open  market;  the  names  of  the 
indorsers  whose  support  the  applicant  has  agreed  to  secure  in  his 
borrowings;  and  finally  a  statement  as  to  the  line  of  credit  ex- 
tended to  the  concern  or  person  by  the  bank. 

2.  A  statement  section  contains  the  original  statements  fur- 
nished by  the  applicant  together  with  the  summaries  prepared  by 
the  credit  department  of  the  bank.  These  statements  may  be 
submitted  on  the  applicant's  own  form,  but  more  frequently  the 
statements  are  made  in  a  uniform  manner  according  to  plans 
which  have  been  worked  out  by  the  federal  reserve  banks.  A 
comparative  statement,  prepared  by  the  bank,  shows  the  appli- 
cant's condition  from  year  to  year.  A  summary  statement  gives 
the  date  total,  quick  assets,  current  liabilities,  ratio  of  quick 
assets  to  current  liabilities,  fixed  liabilities,  total  liabilities,  net 
worth,  annual  sales,  and  net  profits. 

3.  The  third  section  of  the  folder  contains  clippings  from 
newspapers  and  periodicals,  and  various  reports  that  have  been 
received  from  banks,  the  trade,  and  other  references  which  have 
been  given  by  the  applicant  or  which  have  been  consulted  by  the 
banks.  Reports  of  interviews  which  the  bank's  representatives 
have  had  with  the  applicant  are  also  included. 

4.  In  the  inquiry  section  all  letters  of  inquiry  which  the  bank 
receives  from  other  parties  regarding  the  applicant's  credit  stand- 
ing are  filed,  and  with  them  copies  of  the  replies  made  by  the 
bank. 

5.  Two  other  sections  contain  reports  received  from  com 
mercial  credit  agencies  and  the  correspondence  relating  to  loans 
which  the  bank  has  had  with  the  subject  of  the  folder. 

These  folders  are  so  filed  that  they  can  be  readily  consulted. 
To  prevent  the  confidential  information  contained  in  the  files 


XVI]  EXTENDING  CREDIT  261 

from  coming  to  the  attention  of  unauthorized  persons,  the  folders 
are  kept  strictly  in  the  possession  of  file  clerks,  who  are  permitted 
to  give  them  out  for  examination  only  upon  requisition  signed  by 
an  officer  of  the  bank  or  by  a  responsible  member  of  the  depart- 
ment. 

Revision  of  Information. — The  information  contained  in  the 
folders  is  revised  regularly  and  on  special  occasions  as  need 
arises.  A  progressive  credit  department  requires  a  regular  revi- 
sion of  the  information  accumulated  in  connection  with  each 
borrowing  account  at  least  once  a  year,  and  more  frequently  when 
information  is  received  which  affects  the  credit  standing  of  the 
subject.  Special  effort  is  made  to  have  the  regular  revisions  occur 
at  the  latest  moment  preceding  the  period  of  large  borrowing  by 
the  customer.  When  this  is  done,  the  bank  is  equipped  with  the 
latest  possible  information  before  making  the  loan. 

2.  Analysis  of  Credit  Information. — The  second  main  func- 
tion of  the  credit  department  is  the  analysis  of  the  credit  informa- 
tion received.  The  primary  purpose  of  maintaining  the  credit 
department  is  to  enable  it  to  give  information  and  advice  to  the 
officers  of  the  bank  which  will  assist  them  in  determining  whether 
applicants  for  credit  ought  to  be  accommodated.  The  final  analy- 
sis of  the  information  as  well  as  the  ultimate  decision  regarding 
the  granting  of  loans  must,  of  course,  be  made  by  the  officers  of 
the  bank. 

The  three  points  principally  considered  in  analyzing  a  credit 
risk  are  the  character,  capacity,  and  capital  of  the  applicant.  Of 
these  three  the  last  is  perhaps  of  least  importance,  chief  attention 
being  directed  to  the  applicant's  character  and  capacity.  There 
are  no  formulas,  however,  for  analyzing  these  two  most  important 
points.  The  bank  takes  into  consideration  all  the  factors  upon 
which  success  in  business  ultimately  rests.  Personality,  standing 
in  the  business  and  social  community,  attitude  toward  obligations. 


262  BANKING  PRACTICE  [XVI 

ability  as  a  manager,  relations  with  employees — all  of  these  are 
considered.  This  information  is  obtained  from  the  inquiries 
made  among  the  applicant's  business  associates  and  from  per- 
sonal interviews  with  the  borrower. 

Financial  Statement  of  the  Applicant. — To  form  an  estimate 
of  the  financial  standing  of  the  applicant,  the  bank  relies  almost 
exclusively  upon  the  financial  statement.  Banks  usually  prefer 
to  receive  from  customers  audited  statements — a  preference  not 
due  so  much  to  the  fact  that  the  bank  questions  the  honesty  of 
its  customers,  but  rather  because  the  audited  statement  presents 
credit  information  in  a  uniform  and  readily  comprehensible 
manner.  The  statement  submitted  consists  of  a  balance  sheet 
and  a  profit  and  loss  statement  covering  operations  for  a  definite 
period.  In  order  to  compare  the  statement  of  one  period  with 
that  of  another,  the  information  embodied  in  them  is  drawn  off 
on  a  comparative  statement  (Form  23). 

Balance  Sheet — Quick  Assets.— The  balance  sheet  is  ex- 
amined first  to  observe  the  value  of  the  quick  assets.  These 
include  such  items  as  cash,  accounts  receivable,  merchandise, 
raw  materials,  and  any  other  valuable  possessions  which  will  be 
liquidated  in  the  regular  course  of  business  in  the  near  future.  The 
quick  assets  are  separated  from  the  fixed  assets,  which  consist  of 
real  estate,  plant,  and  machinery.  The  liabilities  are  also  sepa- 
rated into  current  and  fixed  liabilities.  The  first  class  consists  of 
such  items  as  notes  and  accounts  payable,  which  must  be  paid  off 
in  the  near  future.  Fixed  liabihties  consist  of  long-term  bonds  and 
mortgages  which  have  been  issued  to  cover  certain  of  the  fixed  as- 
sets.   The  balance  sheet  also  shows  the  net  capital  of  the  concern. 

Cash  Account. — The  cash  account  is  examined  to  ascertain 
whether  it  includes  such  items  as  demand  notes  or  I.  O.  U.'s 
covering  withdrawals,  expenses  or  loans  to  members  or  employees 


COMPARATIVE  STATEMENT 


N«me         THE  JOHN  DOE  yANDFAOTURJNG  COMPMiY, 

Addreu  "EW  YOM  CTTI 

ButLneM 


Banufacturers  of  Felt  H, 


Infon 


ived  fn 


Datt 

Cash 

AccountJ  Receivable — (Merchandise) 

Notes  Reetivable— (Merchandise) 

Trade  Acceptances  Receivable 

Drait3  against  Foreign  Shipments 

Merchandise— Finished 

Mer^andise — Unfinished 

Raw  Material 

U.  S.  Liberty  Bonds 

Har  Certificates 


Toti! 
Fixed  Ajsn?  ■  Tenenenl  BlilgB .  4B  E 
Real  Estate 
Buildinf^s 

Machinery.  Fixtures  and  Equipment 
Good-will,  Patents,  etc. 
Due  irom  Officers,  Employees,  etc. 
Investments  in  Aililiated  Companies 
Other  Stocks.  Bonds,  etc 
Delerred  Chlrees 

AdTancee  to  Bobbs  &  Comi^n? 

Total 
Total  Assits 

CtfitMNT  LuBlunES 

Accounts  Payable 
Notes  Payable  to  Own  Banb 
Notes  Payable  throueh  Broken 
Notes  Pavable  (or  Merchandise 
Notes  Payable  to  Othen 
Trade  Acceptances  Payable 
Due  Banks  or  Bankets  ior  Forugn  Credits 
Reserve  lor  Taies 
Dividends  Pavable 
Labor  and  Salaries  a/c-Kot  due 


Total 


Diretao  LLUiUTtes; 
Bonded  Debt  (due 
Mortgages  and  Liens  (d 


Selling  Terns 

Aknu/sl  Salu 

Net  Profits 

Dividends  Paid 

Wiihdrawab  by  Partners 

Outside  Meatu  ot  Endorsen 

Insurance     Fire  on  Buildings 

Machinery   Fixt   and  Eijuip 
Fire  on  Merchandise 
Lile 


Total  Assets 

Total  Liabilities  {ex.  Capiul.  Surplus  and 
Undivided  Pro/it) 

Nbt 
Contingent  Liabilines 

Current  Llabilltles-!daxljnum 
(^lrrent  Llabllltlec-Ulolffiton 


114  492 
25E 


Form  23  (a).    Comparative  Statement  of  a  Corporation  (face).    (Size  9  x  16X.) 

26.^ 


264 


BANKING  PRACTICE 


XVI 


of  the  concern.  The  practice  of  carrying  such  items  in  the  cash 
account  is  regarded  unfavorably  by  the  bank.  The  bank  wishes 
to  know  whether  the  cash  is  readily  available  for  the  needs  of  the 


Accounts  BecelTabla 
Note!  Receivable 
Trada  Acceptances 


C — Treisury  Stock  deducted  ai  follow 


D — No  reserve  reponed. 

E— Cost 

F— Market 

G— Blsjs  of  Valuitma  not  ttated. 

H— Furtlier  information  dei.red 

1  — Capital  Authorized  , 

Preferred.  B^  Cunnilatlvs 


oarket ,  whichever  is  lower. 


E-Traile  Acceptances  Receivable 
Aocoiants  Receivable 

Total  Receivables 


L-Capltal   stock  Investtmnt   In  Dobbs  &  Company 
U-25  shares  C*   J.  Mathis  Company  preferred  stock. 


CKReoerve  for  State  and  Mlscellaneoue  Ta:ies 
Reserve  for  Inc.  &  Excess  Profits  Taies-1919 
Reserve  for  Inc.  &  Excess  Profits  Tajtes-1930 

P-lDclullng  an  unspecified  aiLOunt  of  local  taxes. 


27,331 

516,497 
643,828 
«  35,916 
607,913 


1,433 

76.060 

37,000 

114, 49e 


Form  23  (b).     Comparative  Statement  of  a  Corporation  (reverse). 

business;  whether  it  is  tied  up  on  deposit  with  concerns  in  the 
process  of  liquidation;  whether  a  large  sum  of  cash  has  been  ac- 
cumulated for  definite  expenditures  in  the  near  future  such  as  the 
distribution  of  dividends  or  the  payment  of  salaries. 


Notes  Receivable.^ — The  item  of  notes  receivable  is  scrutinized 
to  ascertain  whether  it  includes  only  strictly  trade  notes  given  for 


XVI]  EXTENDING  CREDIT  265 

actual  purchases,  or  loans  to  officers  and  employees,  subscrip- 
tions for  stock,  accommodation  notes  and  notes  of  affiliated  con- 
cerns, or  hypothecated  notes.  Many  of  these  types  of  notes 
receivable  would  be  uncollectible  in  case  of  failure.  The  volume 
of  the  notes  receivable  is  considered  in  the  light  of  the  custom  pre- 
vailing in  the  applicant's  particular  line  of  business.  If,  for  ex- 
ample, it  is  customary  to  take  a  buyer's  notes,  the  notes  receivable 
account  may  be  large.  In  general,  however,  an  extraordinarily 
large  volume  of  notes  receivable  would  be  regarded  as  an  unfa- 
vorable indication.  The  length  of  time  the  notes  have  to  run  is 
also  considered.  Long-term  notes  are  less  desirable  for  an  active 
business  concern  than  short-term  notes. 

Accounts  Receivable. — The  item  of  accounts  receivable  is 
analyzed  to  determine  the  amount  or  proportion  of  the  accounts 
receivable  due  from  affiliated  concerns  or  from  persons  who  are 
closely  associated  with  the  business.  Effort  is  made  also  to  learn 
whether  any  of  the  accounts  receivable  have  been  hypothecated. 
The  use  of  accounts  receivable  as  security  for  loans  is  a  sign  of 
weakness,  for  it  indicates  that  the  applicant  has  been  hard  pressed 
to  secure  credit.  In  addition  a  bank  desires  to  know  whether  the 
accounts  receivable  can  be  readily  liquidated.  Thus,  if  the  major- 
ity of  these  accounts  have  grown  out  of  transactions  recently 
effected  and  if  there  are  very  few  long-standing  accounts  or  past- 
due  accounts,  the  indication  is  that  the  accounts  of  the  firm  are 
highly  liquid  and  that  it  has  an  effective  collection  system.  Con- 
cerns which  adopt  a  policy  of  charging  oft"  bad  accounts  and  of 
setting  up  a  reserve  for  those  which  may  prove  uncollectible  in  the 
future,  enjoy  a  better  rating  than  those  which  do  not  pursue  this 
cautious  policy. 

The  Inventory. — Another  item  which  receives  careful  con- 
sideration in  analyzing  the  credit  statement  is  the  inventory.  The 
bank  desires  to  know  the  basis  that  has  been  used  in  arriving 


2b5  BANKING  PRACTICE  [XVI 

at  the  figures  given,  whether  the  inventory  is  figured  at  cost  or  at 
market  price,  and  which  price  was  the  lower  at  the  time  of  taking 
stock.  It  is  a  healthy  sign,  from  the  viewpoint  of  the  credit  man, 
to  see  old  goods  eliminated  from  the  live  assets  of  a  concern 
either  by  charging  oflf  the  proper  depreciation  or  by  closing  them 
out  through  special  sales.  A  concern  which  lists  its  goods  on 
hand  at  prices  above  the  current  market  level  would  be  subject 
to  the  suspicion  of  padding  its  statement,  and  would  therefore 
not  be  regarded  as  a  good  credit  risk.  The  inventory  is  also  con- 
sidered in  the  light  of  the  kinds  of  goods  which  it  includes.  More 
allowance  for  depreciation  must  be  made  for  luxuries,  novelties, 
and  seasonable  goods  than  for  staples. 

Stocks  and  Bonds. — Another  item  considered  in  the  analysis 
is  that  of  stocks  and  bonds.  The  appearance  of  this  item  among 
the  assets  may  indicate  a  speculative  tendency  in  the  business 
which  would  be  undesirable;  on  the  other  hand,  it  may  indicate 
an  investment  of  surplus  funds  in  readily  salable  securities,  thus 
strengthening  the  credit  standing  of  the  applicant.  Stocks  and 
bonds  of  affiliated  or  subsidiary  concerns  are  not  regarded  as 
particularly  good  assets  upon  which  to  base  application  for  credit. 
In  such  case  the  bank  ascertains  the  relationship  existing  between 
the  two  concerns.  The  one  may  have  contingent  liabilities  or 
contractual  relations  with  the  other  which  are  incurred  in  the 
ownership  of  such  securities. 

Real  Estate. — In  considering  the  item  of  real  estate,  effort  is 
made  to  determine  whether  mortgages  are  outstanding  against 
such  property;  whether  the  buildings  and  plant  are  in  good  oper- 
ating condition  and  well  adapted  for  the  business;  whether  a 
sufficient  amount  of  insurance  is  carried;  whether  there  are  any 
unpaid  taxes,  any  assessments  or  other  liens  outstanding  against 
it;  and  whether  the  site  and  buildings  are  adapted  for  other  than 
the  present  uses.    Here  also  the  policy  of  the  applicant  toward  de- 


XVI 1  EXTENDING  CREDIT  267 

preciation  is  considered.     Attention  to  this  factor  is  particularly 
important  where  there  is  a  heavy  investment  in  machinery. 

Sundry  Assets. — Among  the  sundry  assets  found  in  a  financial 
statement,  the  credit  man  of  the  bank  considers  insurance  and 
other  deferred  charges  as  having  weight  from  a  credit  point  of 
view  if  they  represent  actual  unexpired  values.  Good-will, 
patents,  trade-marks,  leaseholds,  and  such  items  are  of  varying 
value,  and  there  is  a  growing  tendency  to  eliminate  them  from 
balance  sheets  or  at  least  to  carry  them  at  merely  nominal  value. 
The  power  of  self-liquidation  within  a  reasonable  time  is  the  most 
important  consideration  in  connection  with  the  assets  of  an 
applicant. 

Current  Assets  and  Current  Liabilities — Relation. — Business 
concerns  get  into  difficulty  most  frequently  because  their  current 
assets  are  not  sufficiently  large  to  take  care  of  their  current  liabili- 
ties. Hence  the  credit  man  of  the  bank  desires  to  know  on  the 
one  hand  the  amount  of  quick  assets,  and  on  the  other  the  volume 
of  current  liabilities.  Of  the  latter,  notes  payable  represent  the 
most  important  item.  Generally  speaking,  the  volume  of  notes 
payable  ought  to  be  small,  except  in  those  lines  of  business  where 
it  is  customary  to  purchase  mainly  on  the  basis  of  notes  rather 
than  on  open  accounts.  If  notes  are  given  for  overdue  accounts 
it  is  considered  a  poor  recommendation  for  the  applicant. 

The  amount  of  notes  given  by  the  applicant  to  banks  for 
borrowed  money,  and  the  total  amount  outstanding,  are  impor- 
tant considerations.  Notes  payable  which  represent  loans  or 
advances  from  officers,  directors,  or  other  persons  closely  asso- 
ciated with  the  applicant  may  indicate  additional  security,  inas- 
much as  it  is  evidence  that  those  interested  in  the  business  are 
willing  to  risk  their  money  in  it.  On  the  other  hand,  there  is  the 
possibility  in  such  case  that  these  borrowings  have  been  made 
because  no  other  source  of  credit  could  be  found.    These  persons 


268  BANKING  PRACTICE  [XVI 

may  have  been  willing  to  invest  their  money  because  of  the  con- 
fidence that  advance  information  in  case  of  financial  trouble 
would  enable  them  to  recover  their  funds  before  other  creditors. 

Appraisal  of  Financial  Judgment  of  the  Applicant. — The  use 
which  the  subject  makes  of  borrowed  funds  is  also  important  to 
know.  Funds  borrowed  from  a  bank  arc  wisely  used  in  settling 
open  accounts — thus  obtaining  discounts  on  purchases- — and  for 
manufacturing  or  operating  outlays.  It  is  poor  policy  to  borrow 
on  short-term  loans  for  the  purpose  of  adding  to  slow  assets  or  for 
paying  dividends.  In  considering  the  item  of  accounts  payable, 
the  bank  desires  to  know  what  amount  is  represented  by  trade 
obligations,  what  amounts  are  past  due,  if  any,  and  what  amounts 
are  secured  in  some  manner.  It  is  also  important  to  know  the 
amount  due  to  affiliated  concerns,  officers,  directors,  employees, 
or  others  closely  associated  with  the  business. 

Fixed  and  Contingent  Liabilities. — The  fixed  liabilities  include 
generally  bonded  indebtedness.  In  analyzing  credit  information 
the  bank  is  interested  to  note  whether  the  bonds  are  amply 
secured  by  mortgages.  If  they  are  not,  they  constitute  a  lien 
upon  the  general  assets  of  the  concern,  and  in  the  event  of  liquida- 
tion the  unpaid  residue  would  share  equally  with  the  claims  of 
other  creditors.  It  is  also  important  to  note  the  amount  of  bonds 
authorized,  the  total  amount  issued,  and  the  purpose  for  which 
the  issue  is  made.  In  addition,  the  provisions  for  retirement  of 
the  bonds  and  the  extent  to  which  the  applicant  is  meeting  the 
sinking  fund  requirements  are  scrutinized. 

The  credit  man  is  particularly  desirous  of  knowing  that  all 
assets  and  particularly  all  liabilities  have  been  indicated  on  the 
statement.  Contingent  liabilities,  such  as  notes  receivable,  dis- 
counted accommodation  notes,  indorsed  notes,  and  similar  items 
which  do  not  always  appear  on  the  financial  statement,  are  fre- 
quently the  cause  of  failure. 


XVI]  EXTENDING  CREDIT  269 

Analysis  of  Profit  and  Loss  Statement. — In  analyzing  the 
profit  and  loss  statement  the  bank  is  interested  in  knowing 
whether  the  net  profits  are  commensurate  with  the  volume  of 
business  and  the  amount  of  capital  employed.  The  policy  of 
paying  dividends  from  any  funds  excepting  the  profits  of  the 
current  period  or  a  comparatively  large  surplus,  is  considered 
derogatory  to  the  credit  rating  of  the  applicant.  Sales  and  profits 
for  the  period  under  consideration  are  compared  with  those  for 
the  corresponding  periods  during  past  years,  for  the  purpose  of 
determining  whether  the  concern  is  making  progress.  Finally, 
the  attitude  on  the  part  of  the  applicant  toward  the  accumula- 
tion of  a  surplus  to  provide  working  capital  aids  in  determining 
whether  conditions  are  favorable  for  granting  credit. 

General  Significance  of  the  Statement. — The  last  phase  of  the 
analysis  of  credit  information  is  the  consideration  of  the  general 
appearance  of  the  statement.  If  the  statement  is  complete  and 
clear  in  every  detail — that  is,  if  it  brings  unfavorable  points  into 
equal  prominence  with  favorable  ones — it  is  worth  more  from  a 
credit  point  of  view  than  a  garbled  or  ambiguous  report  which 
seeks  to  gloss  over  unfavorable  features.  If  the  applicant  gives 
evidence  of  a  willingness  to  cooperate  in  every  possible  way  in 
presenting  a  clear  and  complete  view  of  his  financial  standing, 
the  bank  will  rate  him  higher  as  a  credit  risk  than  if  he  furnishes 
information  sparingly  and  reluctantly. 

3.  Furnishing  Credit  Information  to  Others. — Besides  ob- 
taining and  analyzing  credit  information  for  its  own  purposes,  the 
credit  department  of  a  large  bank  also  performs  the  function  of 
disseminating  credit  information.  This  is  a  very  important  part 
of  the  service  which  the  bank  renders.  Credit  men,  both  in  banks 
and  in  other  concerns,  rely  to  a  very  considerable  extent  upon  the 
service  of  the  metropolitan  banks  for  information  concerning 
those  to  whom  they  propose  to  extend  credit.     This  service  is 


270  BANKING  PRACTICE  [XVI 

becoming  increasingly  important  in  connection  with  foreign  trade. 
American  manufacturers  desiring  to  transact  business  with  for- 
eign concerns,  and  foreign  manufacturers  wishing  to  deal  with 
American  traders,  look  to  the  credit  departments  of  the  large 
banks  for  information  without  which  it  would  be  practically  im- 
possible to  extend  their  foreign  connections.  This  information  is 
furnished  in  writing  and  by  personal  interviews,  care  being  taken 
to  make  sure  that  it  will  be  held  confidential. 

Additional  Services. — Banks  located  in  the  smaller  towns  or 
cities  frequently  call  upon  their  city  correspondents  to  purchase 
commercial  paper  for  them  as  an  investment  of  their  surplus 
funds.  The  metropolitan  banks  perform  this  service  usually 
without  charge,  merely  as  a  matter  of  accommodation  to  the 
interior  bank.  In  order  to  give  the  most  satisfactory  service, 
they  must  know  the  credit  standing  of  the  persons  whose  paper 
they  purchase  for  the  account  of  the  interior  bank.  Still  another 
service  of  the  credit  department  is  that  of  advising  and  assisting 
customers  who  desire  to  improve  their  credit  standing.  The  wide 
experience  of  the  credit  men  in  a  large  bank  makes  it  possible  for 
them  to  give  expert  advice  in  this  matter.  Finally,  the  credit 
department  performs  an  important  service  by  cooperating  in 
obtaining  new  business  for  the  bank.  The  desirability  of  investi- 
gating carefully  a  prospective  customer  before  he  is  approached 
by  the  bank's  solicitors,  is  self-evident.  Frequently  those  who 
sohcit  new  accounts  consult  the  credit  department  for  an  estimate 
of  the  standing  of  the  prospective  customer  before  making  any 
effort  to  secure  his  business.  If  the  report  is  unsatisfactory  he  is 
not  approached;  if  it  is  satisfactory  effort  is  made  to  secure  him  as 
a  depositor. 

The  Line  of  Credit. — After  the  credit  information  has  been 
gathered  and  analyzed,  the  bank  officers  decide  upon  the  advis- 
ability of  extending  credit  to  the  applicant.    The  decision  of  the 


XVI]  EXTENDING  CREDIT  2/1 

officers  is  subject  to  approval  by  the  board  of  directors.  If  the 
decision  is  favorable  a  line  of  credit  is  granted  to  the  customer, 
or  a  loan  agreement  is  entered  into.  A  line  of  credit  is  an  agree- 
ment on  the  part  of  the  bank  to  carry  loans  for  the  beneficiary  up 
to  a  certain  maximum  at  any  one  time.  This  line  of  credit  is 
subject  to  revision  at  intervals,  but  while  it  is  in  force  the  bank 
makes  every  effort  to  provide  the  funds,  so  long  as  the  credit 
standing  of  the  applicant  undergoes  no  important  change.  The 
customer's  application  for  the  line  of  credit  is  placed  on  file,  and 
on  it  is  noted  the  amount  then  owed  to  the  bank  on  account  of 
loans,  discounts,  and  commercial  credits;  the  amount  and  ma- 
turity of  his  last  loan;  the  amount  borrowed  during  the  previous 
year;  and  at  what  time  and  for  how  long  he  remained  out  of  debt 
to  the  bank.  Record  is  also  made  of  the  customer's  average 
balance,  the  balance  at  date  of  application,  and  the  rate  of  in- 
terest, if  any,  allowed  the  apphcant  on  average  balance. 

Stipulations  Regarding  a  Line  of  Credit. — When  a  line  of 
credit  is  granted,  certain  stipulations  are  made  with  regard  to 
indorsers,  collateral,  and  the  amount  of  the  average  balance 
which  the  borrower  must  keep  on  deposit  with  the  bank.  It  is 
usually  stipulated  that  the  borrower  must  be  entirely  out  of  debt 
to  the  bank  at  some  period  during  the  year.  Each  application 
for  a  loan  under  a  line  of  credit  is  examined  with  almost  as  much 
thoroughness  as  is  his  credit  standing  at  the  time  of  granting  the 
line  of  credit.  This  investigation  is  for  the  purpose  of  ascertaining 
whether  any  important  change  has  occurred  in  the  credit  position 
of  the  applicant. 

If  collateral  is  deposited  as  partial  security  for  the  loan,  it  is 
examined  by  the  credit  department.  Notes  deposited  as  col- 
lateral are  examined  to  see  that  they  are  in  proper  form;  that  the 
amounts  in  figures  and  in  writing  correspond;  that  the  notes  are 
not  out  of  proportion  to  the  credit  rating  given  the  makers;  that 
datings  are  correct;  that  the  notes  mature  within  a  reasonable 


272  BANKING  PRACTICE  [XVI 

time  and  are  signed  properly;  that  they  are  negotiable  and  are 
properly  indorsed.  Other  forms  of  collateral,  such  as  stocks, 
bonds,  warrants,  and  warehouse  receipts,  are  examined  to  see 
that  they  are  properly  drawn  and  assigned.  When  warehouse 
receipts  are  used,  an  investigation  of  the  standing  of  the  ware- 
house company  signing  the  receipt  is  made,  and  certification  is 
obtained  as  to  the  grades,  weights,  and  nature  of  the  commodities 
offered.  If  the  line  of  credit  agreement  requires  that  the  borrower 
furnish  indorsements  as  guarantees,  the  credit  department  sees 
that  such  indorsements  are  obtained. 


CHAPTER    XVII 
LOANS  AND  DISCOUNTS 

Similarity  of  Loans  and  Discounts. — In  the  published  bank 
statement  loans  and  discounts  are  usually  combined  in  a  single 
item,  the  largest  item  among  the  assets.  Loans  and  discounts  are 
similar  in  that  they  represent  an  advance  of  funds,  in  the  form  of 
bank  credit,  made  with  the  understanding  that  the  money  ad- 
vanced will  be  paid  to  the  bank  at  some  definite  time  in  the  future. 
It  goes  without  saying  also,  that  the  bank  in  each  case  expects  to 
be  recompensed  for  its  service  in  advancing  the  funds.  There 
are,  however,  certain  marked  dififerences  between  loans  and 
discounts. 

The  Financing  of  Deferred  Payments. — Before  discussing  in 
detail  the  differences  between  loans  and  discounts,  the  practice 
in  both  of  these  types  of  transactions  may  be  considered  in  gen- 
eral terms.  Suppose  a  merchant  in  Galveston  buys  a  quantity  of 
flour  from  a  miller  in  Minneapolis.  The  miller  desires  his  money 
immediately,  but  the  Galveston  merchant  has  not  the  money  at 
hand  with  which  to  pay  him.  There  is  no  doubt  that  the  mer- 
chant will  be  able  to  sell  the  flour,  and  that  after  he  has  done  so 
he  will  have  sufficient  funds  not  only  to  settle  his  account  with  the 
miller,  but  to  leave  something  remaining  as  his  own  profit.  The 
problem  is  to  find  some  means  by  which  the  miller  may  get  his 
money  immediately,  some  means  by  which  the  merchant  may 
have  the  money  to  pay  the  miller  before  the  flour  is  sold.  Leaving 
out  of  consideration  the  fact  that  the  miller  might  sell  on  credit 
and  might  then  borrow  from  a  Minneapolis  bank  on  his  own  note, 
there  are  two  ways  of  meeting  this  problem. 

The  Galveston  merchant  might  go  to  his  local  bank  and 
18  273 


274  BANKING  PRACTICE  [XVII 

arrange  for  an  extension  of  credit.  He  would  give  a  note,  properly- 
secured,  agreeing  to  repay  the  bank  within  a  definite  time,  say 
90  days.  He  would  receive  credit  for  the  money  in  his  deposit 
account  with  the  bank,  and  would  send  his  check  or  a  bank  draft 
to  the  miller.  Or  he  might  draw  a  note,  made  payable  to  the 
miller,  for  the  full  amount  due  and  send  the  instrument  to  Min- 
neapolis. The  note  represents  a  promise  on  the  part  of  the  Gal- 
veston man  to  pay  the  Minneapolis  man  the  specified  sum  at  a 
definite  time.  But  the  Minneapolis  miller  has  not  yet  obtained 
his  money.  He  indorses  the  note  which  he  has  received  from  his 
customer,  and  then  presents  it  to  his  bank  in  Minneapolis  as  a 
piece  of  property  having  a  value  at  maturity  equal  to  the  amount 
specified  on  the  face,  and  this  he  requests  the  bank  to  buy.  The 
bank  knows  the  miller  and  is  satisfied  that  he  is  responsible,  in 
other  words,  that  if  the  note  is  not  paid  by  the  signer  at  maturity 
the  bank  will  be  reimbursed  by  the  miller. 

Theory  of  the  Discount. — Assuming  that  the  bank  is  satisfied 
and  buys  the  note,  there  remains  the  determination  of  the  price 
to  be  paid  for  it.  If  the  amount  of  the  note  is  $5,000  the  bank  will 
say  in  effect:  "This  is  worth  $5,000  but  only  on  condition  that 
we  hold  it  to  the  date  of  maturity,  say  90  days.  If  we  buy  it  now 
for  the  value  it  will  have  in  three  months,  we  will  lose  interest  on 
the  money,  since  if  we  did  not  buy  it  we  could  lend  the  $5,000 
to  someone  and  collect,  say  6  per  cent  interest."  The  price  which 
the  bank  will  pay,  therefore,  will  be  determined  by  the  length  of 
time  the  note  has  to  run  before  payment  and  the  current  rate  of 
interest  for  bank  loans.  In  the  case  assumed,  the  bank  would 
calculate  that  6  per  cent  interest  on  $5,000  for  90  days  would  be 
$75,  and  it  would  therefore  agree  to  buy  the  $5 ,000  note  for  $4,925. 
The  miller  would  thus  obtain,  in  exchange  for  the  Galveston  mer- 
chant's promise  to  pay  him  $5,000  in  90  days,  $4,925  in  cash 
without  waiting.  The  bank  would  give  up  $4,925  in  cash  and 
would  receive  $5,000  in  90  days. 


XVII]  LOANS  AND  DISCOUNTS  275 

Trade  Acceptances  a  New  Form  of  Discount. — Since  the  es- 
tablishment of  the  federal  reserve  system,  a  variation  in  such 
methods  of  settlement  as  the  foregoing  is  becoming  popular. 
Purchases  and  sales  are  frequently  financed  by  means  of  trade 
acceptances.  Although  this  method  of  payment  is  in  essence  the 
same  as  the  discounting  process  just  described,  the  procedure 
would  be  somewhat  different,  perhaps  as  follows:  The  Minne- 
apolis miller  may  send,  through  his  bank  to  the  Galveston  bank,  a 
draft  on  the  Galveston  merchant  for  $5,000  payable  90  days  after 
sight  and  attach  to  such  a  draft  the  bill  of  lading  and  other 
shipping  documents,  with  the  request  that  these  be  given  up  only 
when  the  local  merchant  has  accepted  the  draft.  The  merchant 
accepts  the  draft  by  writing  his  name  across  the  face,  with  the 
date  on  which  the  acceptance  was  made.  The  draft  then  becomes 
virtually  a  promissory  note.  The  shipping  receipts  are  delivered 
to  the  merchant  and  he  gets  the  flour.  He  now  has  90  days  in 
which  to  dispose  of  the  shipment,  and  from  this  sale  it  is  pre- 
sumed that  he  will  derive  more  than  enough  income  to  be  able  to 
pay  the  draft  at  maturity.  In  the  meantime  the  accepted  draft 
will  be  returned  to  the  miller,  who  may  take  it  to  his  Minneapolis 
bank  with  the  request  that  the  bank  purchase  it,  or  discount  it 
in  the  same  manner  as  it  would  in  the  case  of  a  promissory  note. 

Loans  and  Discounts  Contrasted. — The  distinction  between 
loans  and  discounts,  as  stated  in  broad  terms  in  the  first  para- 
graph of  this  chapter,  may  be  brought  out  more  clearly  by  placing 
the  characteristics  of  the  two  forms  of  credit  extension  in  parallel 
columns. 

Loan  Discount 

Contract    or    agreement    between  A  purchase;  the  claim  of  the  person 

bank  and  customer  under  which  to  whom  the  note  is  payable  is 

funds  are  advanced,  to  be  repaid  transferred  to  the  bank. 
according  to  terms  of  the  contract. 


276 


BANKING  PRACTICE 


XVII 


Loan 


Discount 


Interest  is  payable  at  the  maturity 
of  the  loan,  or  at  stated  intervals 
after  the  loan  is  made. 

Payment  frequently  guaranteed  by 
deposit  of  collateral. 

Sometimes  indefinite,  e.g.,  a  de- 
mand or  call  loan  which  is  pay- 
able at  any  time  the  bank  de- 
mands it,  also  at  any  time  the 
borrower  may  desire  to  pay  it  ofif . 

May  arise  from  many  transactions, 
e.g.,  erection  of  buildings,  buying 
land,  stocks,  bonds,  or  other  com- 
modities. 

Usually  signed  by  one  person  or  cor- 
poration— one-name  paper. 


Preparation  for  payment  not  im- 
plied on  face  of  the  note. 

Rate  of  interest  must  be  specified, 
for  the  principal  advanced  is 
identical  with  the  face  value. 


Interest  is  deducted  in  advance,  i.e., 
when  the  note  is  sold  to  the  bank. 

Not  usually  secured  by  collateral. 

Definite  date  of  maturity ;  this  must 
be  the  case  or  the  bank  would 
have  no  way  of  determining  the 
price  to  pay  for  the  note. 

Usually  grows  out  of  purchase  and 
sale  of  commodities. 


May  be  two-name  paper,  i.e., 
signed  by  one  person  and  indorsed 
by  another,  either  one  of  whom 
or  both  are  responsible  to  the 
bank  for  payment. 

Note  itself  usually  indicates  pur- 
pose of  borrowing  and  suggests  its 
self-liquidating  nature. 

No  rate  of  interest  specified.  Differ- 
ence between  the  amount  ad- 
vanced and  the  face  value  is  the 
interest. 


The  above  lines  of  distinction  are  not  always  clearly  drawn. 
Credit  advances  which  are  essentially  loans  are  sometimes  treated 
as  if  they  were  discounts,  the  bank  deducting  the  interest  in  ad- 
vance and  paying  to  the  borrower  only  the  proceeds. 


Relation  of  Deposits  to  Loans  and  Discounts. — The  intimate 
relation  between  a  bank's  advances  of  credit  and  its  deposits  has 
been  pointed  out.  In  the  case  of  both  loans  and  discounts,  when 
funds  are  advanced  to  a  customer  by  a  bank,  they  are  given 


XVII]  LOANS  AND  DISCOUNTS  277 

usually  in  the  form  of  a  credit  to  his  account.  He  is  then  able  to 
use  them  for  payments  just  as  effectively  as  though  they  were 
actual  money,  and  much  more  conveniently. 

Loans  Classified. — The  various  kinds  of  loans  made  by  a 
modern  commercial  bank  may  be  classified,  according  to  the 
security  pledged,  in  four  main  groups:  (i)  loans  secured  by 
stocks  and  bonds,  (2)  merchandise  loans,  (3)  loans  based  upon 
receivables,  and  (4)  loans  made  upon  arrival  drafts. 

1.  Loans  Secured  by  Stocks  and  Bonds. — The  advances  based 
upon  pledges  of  stocks  and  bonds  may  be  subdivided  into  two 
classes:  stock  exchange  loans,  and  non-stock  exchange  loans. 
Stock  exchange  loans  are  made  only  to  members  of  the  stock 
exchange  and  are  usually  made  only  on  the  security  of  stocks  and 
bonds  salable  on  the  exchange.  Non-stock  exchange  loans  may 
be  made  to  persons  who  are  not  members  of  the  exchange,  and 
may  be  based  on  the  deposit  of  any  acceptable  stocks  or  bonds. 

2.  Merchandise  Loans. — Merchandise  loans  are  those  made 
upon  the  security  of  warehouse  receipts,  bills  of  lading,  and  simi- 
lar evidences  of  ownership  of  merchandise.  They  are  negotiated 
most  frequently  in  connection  with  financing  the  manufacture 
and  marketing  of  staples  such  as  wheat,  cotton,  and  meat.  The 
handling  of  this  type  of  loan  has  been  so  perfected  that  by  chang- 
ing the  collateral  successively  from  bills  of  lading  to  trust  receipts, 
and  from  these  to  warehouse  receipts,  it  often  happens  that  prac- 
tically the  same  loan  covers  the  progress  of  the  raw  material  from 
the  primary  market  through  the  mill  and  into  the  retail  store, 
payment  of  the  loan  being  finally  made  from  the  proceeds  of  sales 
to  retail  buyers. 

3.  Loans  Based  on  Receivables. — Loans  made  upon  receiv- 
ables are  advances,  the  collateral  security  for  which  consists  of 


278  BANKING  PRACTICE  [XVII 

notes  receivable  deposited  by  the  borrower.     Such  loans  are 
usually  payable  on  demand. 

4.  Advances  Upon  Arrival  Drafts. — Advances  made  upon 
arrival  drafts  consist  of  loans  made  upon  the  security  of  drafts  to 
which  are  attached  bills  of  lading.  These  are  generally  short- 
time  advances,  made  to  a  shipper  of  merchandise  to  bridge  the 
interval  of  time  during  which  goods  are  in  transit.  Two  forms  of 
such  loans  are  worthy  of  particular  note.  One  of  these  is  repre- 
sented by  loans  made  in  connection  with  the  shipment  of  goods 
to  a  particular  point,  say  New  York  City.  A  draft  is  drawn  pay- 
able upon  the  arrival  of  the  goods  at  destination,  and  the  shipping 
documents  giving  possession  of  the  goods  are  delivered  only  upon 
payment  of  the  draft.  A  considerable  interval  might  elapse  from 
the  time  of  the  shipment  of  the  goods  until  their  arrival,  during 
which  period  the  shipper  would  be  unable  to  get  his  money.  The 
draft,  however,  is  forwarded  to  a  New  York  bank  and  the  bank 
presents  it  to  the  consignee,  obtaining  his  assurance  that  pay- 
ment will  be  made  upon  the  arrival  of  the  goods.  On  the  strength 
of  this  promise,  supported  by  a  lien  upon  the  shipment  which  is 
afforded  by  the  shipping  documents  and  by  the  credit  rating  of 
the  shipper,  the  bank  advances  funds  to  the  latter,  charging  him 
at  the  current  rate  of  interest  and  reimbursing  itself  for  the 
amount  of  the  loan  when  it  has  collected  the  draft. 

A  second  important  type  of  the  loan  based  upon  arrival  drafts 
is  one  in  which  a  bank  in  one  city,  for  instance.  New  York,  ad- 
vances funds  for  shipments  of  goods  between  two  other  cities. 
The  shipper  in  such  a  case  draws  a  draft  to  which  are  attached  the 
shipping  documents  in  the  usual  way,  and  delivers  them  to  the 
New  York  bank  which  is  to  make  the  loan.  As  the  goods  are  not 
to  come  to  the  city  in  which  the  loan  is  made,  they  do  not  come 
into  the  actual  possession  of  the  lending  bank.  The  lending  bank, 
however,  has  the  documents  which  give  the  right  of  possession  of 
the  goods.    These  are  sent  with  the  draft  to  a  correspondent  bank 


XVII]  LOANS  AND  DISCOUNTS  279 

in  the  city  to  which  the  goods  have  been  shipped.  When  the 
goods  arrive  and  the  draft  is  paid  by  the  consignee,  the  funds  are 
forwarded  to  the  lending  bank  by  the  correspondent.  The  lend- 
ing bank  then  reimburses  itself  for  the  funds  advanced  and,  after 
deducting  the  interest,  places  whatever  balance  there  may  be  to 
the  credit  of  the  borrower. 

Demand  Loans. — Loans  may  be  classified  according  to  their 
duration,  as  either  demand  loans  or  time  loans.  Demand  loans, 
as  the  name  signifies,  are  payable  at  the  option  either  of  the 
borrower  or  lender,  the  most  frequent  form  being  the  demand 
street  loan,  or  call  loan.  Such  loans  are  made  strictly  in  accor- 
dance with  the  usages  of  the  New  York  Stock  Exchange.  They 
are  negotiated  through  money  brokers  who  are  members  of  the 
exchange,  and  are  secured  by  collateral  consisting  of  stock  ex- 
change securities.  Frequently,  however,  demand  loans  are  made 
which  are  based  upon  stocks  and  bonds  other  than  those  dealt  in 
on  the  New  York  Exchange,  and  at  times  such  loans  are  nego- 
tiated with  warehouse  receipts  or  bills  of  lading  as  collateral. 

Time  Loans. — Time  loans  are  advances  made  for  a  definite 
period  and  at  a  fixed  rate  of  interest.  The  period  varies  from  one 
day  to  six  months,  although  the  usual  period  is  30,  60,  or  90  days. 
The  one-day  loan,  or  clearance  loan,  is  found  chiefly  in  New  York. 
This  is  strictly  a  stock  exchange  loan.  Brokers  place  with  their 
banks  certain  approved  stocks  and  bonds.  If  during  the  course 
of  the  day  such  brokers  should  need  more  funds  than  they  have 
on  deposit,  arrangement  is  made  to  advance  a  sufficient  amount 
on  the  basis  of  these  stocks  and  bonds  as  security.  At  the  close  of 
the  day  additional  funds  are  deposited  as  the  result  of  the  day's 
transactions  and  the  day,  or  clearance  loan  is  closed.  Inasmuch 
as  such  loans  do  not  run  for  a  full  day,  no  interest  is  charged.  The 
longer  term  loans  are  sometimes  made  to  stock  exchange  members 
on  the  basis  of  stocks  and  bonds  as  collateral;  or  they  may  be 


280  BANKING  PRACTICE  [XVII 

made  to  other  borrowers  on  merchandise  security,  or  on  any  other 
security  or  credit  which  the  lender  is  wilhng  to  accept. 

Preferences  as  to  Collateral. — In  making  loans  upon  collateral 
securities,  banks  prefer  those  securities  which  are  listed  on  the 
stock  exchange.  There  are  definite  reasons  for  this  preference. 
Listing  is  a  condition  precedent  to  salability  on  the  exchange. 
This  is  important  in  case  the  bank  should  find  it  necessary  to  sell 
the  collateral  for  its  own  protection.  Listing  on  the  exchange 
gives  the  bank  assurance  of  the  validity  of  securities,  inasmuch  as 
they  are  not  so  listed  until  the  listing  committee  of  the  exchange 
is  convinced  that  they  are  valid.  Furthermore,  corporations 
whose  securities  are  listed  on  the  stock  exchange  are  required  to 
submit  periodical  reports  and  statements  of  financial  condition 
for  publication  by  the  exchange. 

In  addition  to  preferring  listed  securities,  banks  ordinarily 
prefer  those  which  are  dealt  in  frequently,  rather  than  those 
which  change  hands  rarely.  The  bank  is  able  to  obtain  a  more 
recent  consensus  of  opinion  as  to  the  value  of  active  securities, 
and  can  feel  reasonably  certain  that  they  can  be  readily  disposed 
of  in  the  market  in  case  of  necessity. 

Rails  versus  Industrials. — Banks  also  express  preference  as  to 
the  proportions  of  different  kinds  of  securities  which  are  accepted 
as  collateral  for  a  given  loan.  Most  stock  exchange  loans  are 
made  upon  security  consisting  in  part  of  railroad  stocks  and  bonds 
and  in  part  of  industrial  stocks  and  bonds.  The  first  are  spoken 
of  as  rails  and  the  second  as  industrials.  While  there  is  consider- 
able variation  as  to  the  relative  proportion  of  these  two  groups 
which  are  accepted  by  different  banks,  in  general  the  preference 
has  hitherto  been  given  to  rails;  the  rails  have  had  greater  stabil- 
ity as  well  as  a  wider  market  and  therefore  could  be  more  readily 
marketed  without  loss.  Sometimes  the  division  is  made  on  the 
basis  of  50  per  cent  of  each  group;  at  other  times  60  and  40  per 


XVII]  LOANS  AND  DISCOUNTS  281 

cent,  or  75  and  25  per  cent,  are  the  proportions  approved. 
Where  loans  are  made  on  collateral  that  is  wholly  industrial,  the 
banks  making  such  loans  sometimes  charge  a  higher  rate  of  in- 
terest  and  demand  a  larger  margin. 

Margin  Requirements. — The  margin,  as  the  term  is  used  in 
this  connection,  is  the  excess  of  the  market  price  of  the  collateral 
over  the  face  of  the  loan.  It  is  expressed  in  a  percentage  of  excess 
of  market  value  over  the  face  value.  The  margin  naturally  varies 
with  different  types  of  collateral  and  with  different  banks,  as  well 
as  with  varying  business  conditions.  Thus,  when  business  condi- 
tions seem  very  unsettled,  a  larger  margin  may  be  required  than 
under  conditions  of  greater  stability.  As  was  said  previously, 
stocks  which  fluctuate  widely  or  whose  earnings  are  less  stable, 
must  be  put  up  in  larger  proporticm  to  secure  loans  than  stocks 
which  fluctuate  less  rapidly.  The  usual  margin  on  call  loans  is 
20  per  cent.  For  time  loans  the  margin  varies  with  the  length  of 
time  the  loans  have  to  run,  as  well  as  with  the  nature  of  the 
security.  In  making  loans  secured  by  United  States  government 
bonds  the  margin  is  sometimes  as  low  as  10  per  cent. 

Variety  and  Size  of  Blocks. — Another  point  about  which  banks 
have  certain  preferences  is  the  number  of  different  security  issues 
which  make  up  the  collateral .  The  greater  the  variety  of  securities 
presented,  the  smaller  is  the  risk,  although  too  many  issues  may 
indicate  blocks  too  small  to  be  readily  disposed  of  on  the  exchange. 

Collateral  Must  be  Negotiable. — Finally,  no  collateral  will  be 
accepted  by  a  bank  unless  it  is  in  negotiable  form  so  that  it  can  be 
sold  in  case  of  default  by  the  borrower.  As  is  pointed  out  else- 
where in  this  volume,  securities  are  transferred  from  one  owner 
to  the  other  by  assignment  on  the  books  of  the  issuing  corpora- 
tion. The  borrower,  therefore,  must  give  the  bank  either  an 
assignment  in  blank  or  a  power  of  attorney,  empowering  it  to 


282  BANKING  PRACTICE  [XVII 

transfer  ownership  of  the  securities  in  case  it  becomes  necessary 
to  sell  them.  The  stock  exchange  has  established  rules  for  what  is 
called  "good  delivery,"  and  banks  insist  that  the  collateral  must 
be  in  such  form  as  to  comply  with  these  rules.  The  rules  cover 
the  kinds  of  stocks  and  bonds  which  may  be  sold,  the  units  in 
which  they  can  be  sold,  the  method  of  executing  assignments 
and  powers  of  attorney,  and  they  also  designate  the  legal  qualifi- 
cations which  a  person,  firm,  or  corporation  must  have  in  order  to 
make  proper  transfers. 

Bank  Stocks  as  Collateral. — Unlisted  stocks  and  bonds  are 
sometimes  accepted  as  collateral,  the  requirements  as  to  the  mar- 
gins, proportions,  and  assignments  being  determined  by  each  bank 
for  itself.  Where  the  securities  are  not  traded  in  on  any  exchange, 
the  bank  must  have  recourse  to  whatever  sources  are  available  to 
ascertain  theprobable  market  value  of  such  securities.  Bank  stocks 
illustrate  a  form  of  security  which  is  frequently  used  in  this  manner. 

Warehouse  Receipts  and  Bills  of  Lading  as  Collateral. — 

Another  form  of  collateral  which  is  extremely  important  in  pro- 
tecting the  loans  of  the  modern  bank  is  that  upon  which  mer- 
chandise loans  are  based.  The  collateral  takes  the  form  chiefly 
of  warehouse  receipts  and  bills  of  lading.  The  lending  bank  must 
exercise  care  to  see  that  the  warehouse  receipts  and  bills  of  lading, 
which  purport  to  evidence  that  the  merchandise  is  in  the  hands 
of  the  warehouse  or  transportation  company,  are  genuine  and 
have  been  properly  executed.  Lenders  can  determine  these 
points  with  more  certainty  since  uniform  warehouse  receipts  acts 
and  uniform  bills  of  lading  acts  have  been  adopted  by  several 
states.  The  Pomerene  Bills  of  Lading  Act  passed  by  Congress  in 
191 6  also  has  contributed  much  toward  establishing  uniformity 
in  bills  of  lading,  and  thereby  toward  eliminating  uncertainties 
in  estimating  the  value  of  such  instruments. 

It  is  not  only  necessary  to  know  that  the  warehouse  receipts 


XVIII  LOANS  AND  DISCOUNTS  283 

and  bills  of  lading  are  in  proper  form,  but  the  lender  must  know 
also  the  condition  of  the  merchandise  covered  by  such  instru- 
ments. Hence  there  are  needed  a  certification  of  weight  and 
grade  and  an  appraisal  of  the  goods,  which  documents  must  have 
been  prepared  by  public  officials  or  by  the  properly  designated 
officials  of  commodity  exchanges. 

Warehouse  Insurance. — Another  risk  that  must  be  guarded 
against  is  the  risk  of  the  destruction  of  the  warehouse  itself. 
Usually  the  lender  insists  upon  having  insurance  policies  or  certi- 
ficates to  cover  any  loss  which  might  result  from  the  destruction 
of  the  property.  If  the  property  is  in  transit  on  a  railroad,  the 
transportation  company  is  legally  the  insurer  of  the  goods.  There 
are  certain  other  risks,  however,  attached  to  bills  of  lading.  For 
example,  a  bill  of  lading  does  not  guarantee  the  kind  of  the  goods 
which  it  covers  and  in  many  instances  it  is  stamped  "Shipper's 
load  and  count,"  or  "Packages  said  to  contain"  a  certain  quan- 
tity. There  is  always  a  possibility  that  partial  delivery  may  have 
been  made  on  the  bill  of  lading  without  indorsement  indicating 
such  delivery  on  the  instrument.  In  such  cases  the  value  of  the 
bill  of  lading  as  collateral  would  depend  entirely  upon  the  credit 
standing  of  the  borrower. 

Approved  Warehouses. — The  reliabihty  of  warehousemen  is 
an  important  factor  in  determining  the  value  of  a  warehouse  re- 
ceipt as  collateral.  Each  commodity  exchange  approves  certain 
warehouses  in  its  vicinity  by  designating  receipts  issued  by  such 
warehouses  as  suitable  instruments  to  be  passed  from  buyer  to 
seller  as  good  delivery  of  the  merchandise  represented.  If  the 
receipt  is  one  issued  by  a  warehouse  that  has  such  approval, 
banks  will  more  readily  accept  it  as  collateral  for  a  loan. 

Other  Forms  of  Collateral — Real  Estate  Mortgage. — The  kind 
of  collateral  that  is  accepted  most  frequently  by  banks  as  a  basis 


284  BANKING  PRACTICE  [XVII 

for  loans  varies  somewhat  in  the  different  sections  of  the  country. 
In  New  York,  corporate  securities  and  warehouse  receipts  repre- 
sent a  large  portion  of  the  collateral,  whereas  in  the  Middle  West 
and  South  mortgages  on  farm  lands  and  warehouse  receipts  based 
on  agricultural  products  are  found  most  frequently. 


jTe^  W..^, ^/^/c^M. /9zr 

SfrPtnP&.  from  THE    NATIONAL   CITY    BANK    OF    NEW    YORK,  the  foUowing 
property,  held  by  the  Bank  as  collateral  security: 

/^    ^ao/i  C^nf]f^  C€T/€^  -^  ^-^  r/^JjoJ^^ _ - - 

Jat^^.jM/^^A 9t^.^^1^_^ 

and  in  consideration  thereof. *<^ hereby  agree  to  hold  said  property  in  trust 

for  the  following  purposes,  viz: M<iC;i/ttJjh£^..^^...M^.!^^  - 


and ^;Mr will  return  the  said  property,  ^s^ .  Oef  JfiTZTH-  a<^  :^^HC'  /fU't^Aoft^^e.. 

COft  J^  J^'tU^  ^^  '^^^  a^a^^Acu^t  9^i4^i£^  /t£4::£c/it'  ^<fi!<£^i/^^ 

with  due  diligence  to  the  Bank,  the  intention  of  this  arrangement  being  to  protect  and  preserve 
unimpaired  the  lien  of  THE  NATIONAL  CITY  BANK  OF  NEW  YORK  on  said  property. 


Form  24.     Trust  Receipt.     (Size  7^4  x  5>^.) 

When  a  bank  accepts  a  mortgage  on  real  estate  as  collateral, 
the  borrower  transfers  ownership  in  the  property  to  the  lender 
with  the  proviso  that  this  transfer  shall  be  void  if  the  borrower 
meets  his  obligation,  that  is,  pays  interest  and  principal  at  speci- 
fied times.  Real  estate  is  generally  accepted  as  collateral  at  not 
more  than  60  per  cent  of  the  appraised  value  of  the  property,  and 
in  many  cases  at  not  more  than  50  per  cent  of  its  appraised  value. 
There  is  among  many  bankers  a  prejudice  against  real  estate 
loans,  growing  out  of  the  fact  that  such  property  is  frequently 
hard  to  dispose  of  in  case  of  necessity.    Since  banks  are  required 


XVII]  LOANS  AND  DISCOUNTS  285 

to  meet  their  obligations  in  large  measure  upon  demand,  the 
feeling  is  that  they  cannot  afford  to  tie  up  a  large  part  of  their 
funds  in  sluggish  security.  For  this  reason,  there  was  for  many 
years  a  prohibition  in  the  National  Banking  Act  against  acceptmg 
real  estate  as  security  for  loans.  Since  the  passage  of  the  Federal 
Reserve  Act,  national  banks  not  located  in  central  reserve  cities 
are,  however,  permitted  to  make  loans  secured  by  real  estate  if 
such  loans  do  not  exceed  50  per  cent  of  the  appraised  value  of  the 
property.  Certain  other  restrictions  as  to  the  duration  of  the 
loan  and  the  total  amount  that  may  be  loaned  in  this  manner  are 
still  in  effect  against  national  banks.  The  regulations  as  to  such 
loans  by  state  banks  vary  with  the  different  states. 

Trust  Receipts,  Chattel  Mortgages,  and  Life  Insurance 
Policies. — Another  form  of  collateral  is  the  trust  receipt  based  on 
various  commodities.  A  trust  receipt  (Form  24)  is  a  legal  instru- 
ment which  guarantees  that  certain  specified  property  covered 
by  the  receipt  will  be  kept  subject  to  the  orders  of  the  lender  until 
the  borrower  has  complied  with  the  terms  of  an  agreement.  Under 
certain  circumstances  banks  may  safely  loan  on  these,  because  if 
the  borrower  fails  to  meet  his  obligations  as  agreed,  the  goods 
covered  by  the  trust  receipt  become  the  property  of  the  bank. 

Still  other  forms  of  collateral  sometimes  used  are  chattel 
mortgages  based  upon  live  stock,  farm  implements,  household 
furniture,  and  similar  property.  Even  life  insurance  policies  are 
sometimes  offered  and  accepted  as  collateral  for  a  loan.  These 
furnish  satisfactory  collateral,  provided  they  have  a  cash  sur- 
render value  in  excess  of  the  loan  and  are  accompanied  by  an 
assignment  of  the  policy  properly  recorded  with  the  insurance 
company. 


CHAPTER    XVIII 
LOANS  AND  DISCOUNTS  (Continued) 

Unsecured  Discounts. — In  contrast  with  loans  secured  by 
collateral,  there  are  discounts  which  are  unsecured,  though  the 
fact  that  they  are  unsecured  must  not  be  interpreted  to  indicate 
that  they  are  unsafe.  As  a  matter  of  fact  many  bankers  regard 
commercial  discounts  as  the  safest  and  most  liquid  form  of  loan. 
Their  safety  is  assured  by  the  facts  that  all  the  assets  of  the  two 
persons  whose  names  usually  appear  on  the  notes  may  be  levied 
upon  for  payment  if  necessary;  that  the  loan  is  negotiated  for  the 
purpose  of  facilitating  the  movement  of  goods  actually  in  process 
of  going  to  market;  and  that  by  the  time  the  note  is  payable  the 
commodities  will  have  been  sold  and  the  money  will  be  actually 
in  hand  if  the  borrower  desires  to  pay. 

The  chief  risk  attached  to  the  discounting  of  commercial 
paper  is  largely  dependent  upon  the  question  as  to  whether  the 
borrower  may  be  able  and  willing  to  pay.  This  risk  is  minimized 
by  the  investigations  conducted  by  the  credit  department  of  the 
bank.  The  raison  d'etre  of  the  credit  department  is  to  furnish 
such  information  as  will  enable  the  bank  to  make  its  advances  to 
customers  with  a  minimum  of  risk. 

Discounting  an  Aid  in  Marketing  Products. — The  discounting 
of  commercial  paper  is  one  of  the  most  important  economic  func- 
tions of  the  commercial  bank,  in  that  its  purpose  is  to  bridge  the 
gap  between  the  various  processes  of  production  and  sale.  Be- 
tween the  beginning  of  the  manufacture  of  goods  and  the  time 
when  they  are  actually  in  the  hands  of  the  consumers  and  are 
paid  for  by  them,  there  may  be  a  span  of  months  or  even  years, 
Consumers  will  not  pay  in  advance  for  the  manufacture  of  the 

286 


XVIII]  LOANS  AND  DISCOUNTS  287 

goods  they  want,  and  producers  cannot  wait  for  months  or  years 
to  be  paid  for  their  work.  To  bridge  this  gap  is  the  commercial 
bank's  function  in  the  economic  scheme.  The  bank  meets  the 
needs  of  both  producers  and  consumers  chiefly  by  the  process  of 
discounting  the  claims  for  future  payments  which  producers  hold 
against  the  consuming  public. 

Cash  Discounts. — The  discounting  process,  however,  does  not 
always  result  in  the  use  of  advances  as  described  above,  which 
are  technically  spoken  of  as  bank  discounts.  One  of  the  most 
common  methods  of  handling  purchases  and  sales  is  for  the  seller 
to  dispose  of  his  goods  on  credit,  the  terms  varying  from,  say,  10 
to  90  days.  The  purchaser  is  generally  given  the  privilege  of  dis- 
counting his  bill,  that  is,  deducting  therefrom  an  agreed  per  cent, 
if  payment  is  made  within  a  specified  period,  say  10  days.  Such 
discounts  are  known  as  cash  discounts  and  they  range  from  Yz 
per  cent  to  5  or  6  per  cent  or  even  more.  Goods  sold  in  this  way 
are  said  to  be  sold  on  open  book  account  terms  and  such  business 
gives  rise  to  another  form  of  borrowing. 

Buyers  do  not  always  take  advantage  of  the  cash  discount 
terms  offered  by  sellers,  and  accordingly  the  financial  burden  has 
to  be  assumed  by  the  seller  until  such  time  as  the  obligations  of 
the  buyers  mature  and  are  paid.  Sellers  usually  finance  a  trans- 
action of  this  sort  by  borrowing  at  their  banks,  most  frequently 
upon  their  unsecured  notes,  in  an  amount  sufficient  to  carry  their 
open  book  accounts  for  the  season.  When  it  is  considered  desir- 
able to  take  advantage  of  cash  discounts,  buyers  frequently  ob- 
tain the  funds  with  which  to  settle  their  accounts  by  borrowing 
on  their  secured  notes  from  their  banks.  Such  notes,  whether  cf 
buyer  or  seller,  give  rise  to  the  second  form  of  bank  loan  pre- 
viously mentioned  (see  page  277). 

Borrowing  Against  Receivables  and  Acceptances. — Another 
method  of  financing  the  production  and  sale  of  goods  is  by  the 


288  BANKING  PRACTICE  [XVIII 

use  of  what  are  called  receivables.  In  some  trades  it  is  customary 
for  the  buyer  to  give  promissory  notes  in  settlement  of  his  pur- 
chases. These  are  time  obligations  and  have  to  be  carried  just 
as  do  open  book  accounts.  The  seller  in  such  case  usually  fi- 
nances the  transaction  by  borrowing  from  his  bank  upon  his  un- 
secured promissory  note,  as  described  above,  an  amount  sufficient 
to  enable  him  to  carry  his  notes  receivable  until  their  maturity. 
Occasionally  the  seller  discounts  the  receivables  themselves  at 
his  bank  in  order  to  obtain  funds  to  finance  his  future  operations. 
The  use  of  trade  acceptances  affords  still  another  means  of 
financing  business  transactions.  The  purchaser  accepts  a  time 
draft  for  the  amount  involved  and  this  draft,  after  acceptance, 
has  the  same  status  as  a  promissory  note  or  a  receivable.  The 
owner  of  the  trade  acceptance  either  discounts  it  at  his  bank  or 
borrows  upon  his  own  unsecured  note  an  amount  sufficient  to 
enable  him  to  carry  the  acceptance  in  his  portfolio  until  its 
maturity. 

Borrowing  in  the  Open  Market. — It  has  been  assumed  that 
the  borrower,  whether  he  be  the  buyer  or  seller,  goes  directly  to 
his  bank  for  the  advance  he  requires.  Frequently,  however, 
concerns  finance  their  transactions  by  selling  large  blocks  of 
notes  in  round  denominations  through  note-brokers.  The  note- 
brokers  act  as  middlemen,  purchasing  the  notes  of  these  large 
borrowers  and  selling  them  to  banks  or  other  financial  institu- 
tions having  funds  awaiting  temporary  investment.  This  method 
of  financing  business  is  termed  borrowing  in  the  open  market. 

Commercial  Paper  Defined  and  Its  Advantages. — The  notes 
which  are  used  in  connection  with  the  transactions  just  described 
are  spoken  of  as  commercial  paper.  Commercial  paper  has  been 
defined  by  the  Federal  Reserve  Act  and  by  the  rulings  of  the 
Federal  Reserve  Board  in  regard  to  rediscounts  in  substance  as 
follows: 


XVIII 1 


LOANS  AND  DISCOUNTS  289 


To  be  classed  as  commercial  paper  the  instrument  must  be 
a  note,  draft,  or  bill  of  exchange  growing  out  of  an  actual  com- 
mercial transaction,  that  is,  it  must  have  been  issued  or  drawn  for 
agricultural,  industrial,  or  commercial  purposes.  Loans  nego- 
tiated or  notes  drawn  for  the  purpose  of  carrying  on  trading  in 
stocks,  bonds,  or  other  investment  securities — except  bonds  of 
the  United  States  government — are  excluded.  Such  paper  must 
run  for  not  more  than  90  days  except  in  the  case  of  paper  arising 
from  agricultural  transactions,  which  may  have  a  maturity  of  not 
more  than  six  months.  Furthermore,  the  notes  must  be  self- 
Hquidating,  that  is,  they  must  have  been  drawn  for  the  purpose 
of  moving  commodities  to  the  market,  and  since  the  paper  is  not 
renewable  at  the  end  of  the  period,  it  is  assumed  that  the  sale  of 
the  commodities  will  provide  the  funds  for  liquidating  the  notes. 
Such  paper  possesses  advantages  from  the  point  of  view  of  the 
borrower  and  the  bank  alike. 

The  advantage  from  the  borrower's  point  of  view  is  that  he 
can  buy  goods  for  the  purpose  of  reselling  them  and  need  not  pay 
for  them  until  he  has  sold  them.  Furthermore,  he  does  not  need 
to  put  up  any  of  his  property  as  security  for  the  loan.  From  the 
standpoint  of  the  bank,  the  advantages  are  that  if  the  credit  risk 
has  been  carefully  scrutinized  in  advance  the  loan  is  as  certain  of 
repayment  at  maturity  as  anything  can  well  be,  and  at  the  same 
time  the  bank  has  its  funds  invested  in  a  liquid  form  of  security. 
If  the  notes  purchased  are  properly  distributed  as  to  maturity 
(the  Federal  Reserve  Board  has  urged  the  reserve  banks  to 
arrange  their  rediscounts  in  such  a  manner  that  approximately  a 
third  of  them  will  become  due  every  30  days) ,  the  bank  can  look 
forward  to  replenishing  its  reserve  at  any  time  merely  by  the 
process  of  refusing  to  make  additional  loans,  and  by  accumulating 
funds  from  the  maturing  commercial  paper  as  it  is  paid  off. 

Loan  and  Discount  Department. — The  work  of  handling  loans 
and  discounts  is  performed  in  a  small  bank  by  one  or  two  officers, 
19 


290  BANKING  PRACTICE  [XVIII 

by  a  few  more  in  a  bank  of  larger  size,  and  by  a  special  depart- 
ment in  banks  of  still  larger  size.  Where  the  volume  of  business  is 
very  heavy,  as  in  some  of  the  larger  metropolitan  banks,  the  divi- 
sion of  clerical  work  goes  further  and  two  departments  are  created, 
one  to  grant  loans  and  the  other  to  handle  discounts.  As  the 
nature  and  purpose  of  the  two  kinds  of  credit  advances  are  the 
same,  the  duties  and  routine  work  of  both  departments  are  very 
similar.  The  relationship,  moreover,  between  the  loan  and  dis- 
count department  and  the  credit  department  is  necessarily  close. 
The  work  of  the  loan  and  discount  department  might  be  summed 
up  as  follows: 

1.  The  examination  and  acceptance  of  the  collateral  if  any. 

2.  Making  settlement  with  the  borrower. 

3.  Watching  margins. 

4.  Caring  for  the  items  and  collateral. 

5.  Computing  and  collecting  interest. 

6.  Collecting  loans  and  discounts  as  they  mature. 

7.  Attending    to   rediscounts   and   pledges   of    commercial 

paper. 

8.  Keeping  the  records  of  the  department  and  preparing 

reports  for  the  officers. 

Application  for  a  Loan. — In  negotiating  a  loan,  application  is 
made  by  the  borrower  to  the  proper  department  of  the  bank.  If 
an  advance  on  collateral  security  is  requested,  the  collateral  must 
be  submitted  for  examination  and  approval;  if  a  note  is  to  be 
discounted,  the  credit  rating  of  the  parties  to  the  note  must  be 
passed  upon  as  described  in  the  preceding  chapter.  When  all  the 
information  concerning  the  borrower  and  his  security  is  at  hand, 
the  application  is  submitted  to  the  bank  officer  in  charge  of  loans, 
with  the  recommendation  of  the  credit  department,  and  the  de- 
cision is  made  as  to  whether  the  advance  shall  be  granted. 

In  the  placing  of  a  stock  exchange  call  loan,  however,  a  some- 
what different  procedure  is  followed.     Banks  throughout  the 


XVIII]  LOANS  AND  DISCOUNTS  29 1 

country  lend  large  sums  on  call  to  members  of  the  New  York 
Stock  Exchange.  Such  lending  is  done  direct  to  members  of  the 
exchange  only  by  the  banks  in  New  York;  their  correspondent 
banks  throughout  the  country  make  these  loans  through  the 
New  York  banks. 

Stock  Exchange  Call  Loans — The  "  Money  Crowd.  " — While 
application  is  often  made  to  a  bank  in  New  York  for  call  money, 
and  collateral  is  submitted  as  in  the  case  of  any  other  loan,  the 
more  frequent  procedure  is  for  the  bank  with  idle  funds  to  invest 
to  seek  the  borrowers.  Such  temporary  investments  are  made 
through  the  New  York  loan  brokers,  or  the  ''money  crowd"  as 
they  are  called.  Certain  members  of  the  stock  exchange  make  a 
specialty  of  dealing  in  money,  just  as  other  brokers  make  a  spec- 
ialty of  dealing  in  certain  kinds  of  securities.  The  money  brokers 
come  together  at  a  specified  place  on  the  floor  of  the  exchange, 
called  the  "money  post, "  and  there  offer  for  loan  on  call  the  sur- 
plus funds  which  the  city  banks  have  available.  As  was  said 
before,  these  funds  comprise  not  only  the  money  of  New  York 
banks  but  also  the  surplus  funds  of  country  banks  sent  to  New 
York  for  investment.  The  brokers  announce  that  they  have 
certain  sums  of  money  to  loan  and  then  ask  for  bids,  that  is,  the 
rate  the  borrowers  are  willing  to  pay  for  the  temporary  use  of  the 
surplus  funds. 

The  Call  Loan  Rate. — The  rate  is  determined  by  supply  and 
demand.  From  the  offerings  and  bids  received,  the  brokers  de- 
termine what  the  rate  for  money  shall  be  for  that  day.  They 
first  estabhsh  the  renewal  rate  for  the  given  day.  This  rate  ap- 
plies to  all  loans  which  are  to  be  continued  from  the  preceding 
day.  During  the  remainder  of  the  day  attention  is  devoted  to  the 
making  of  new  loans,  and  the  rate  which  is  obtained  for  these  is 
spoken  of  as  the  market  rate.  This  rate,  it  is  obvious,  is  changing 
from  time  to  time  during  the  day  according  as  supply  and  demand 


292  BANKING  PRACTICE  [XVIII 

fluctuate.  In  most  instances,  banks  instruct  their  representative 
to  loan  at  the  market  rate.  Some  banks,  however,  are  willing  to 
lend  to  their  own  depositors  at  less  than  the  market  rate,  some  of 
these  banks  having  fixed  a  maximum  of  6  per  cent  for  such  loans 
regardless  of  the  market  rate. 

The  lending  bank  determines  the  size  of  the  individual  loans 
which  it  wishes  to  have  placed.  Call  loans  range  in  size  from 
$25,000  to  $500,000,  but  $100,000  is  usually  regarded  as  the 
minimum.  Loans  for  smaller  amounts  are  considered  odd-lot 
transactions,  and  such  loans  are  usually  more  difficult  to  place 
than  the  larger  ones.  When  rates  are  published,  they  apply 
to  loans  made  in  blocks  of  $100,000  or  more. 

After  the  broker  has  received  notice  of  the  terms — as  to 
amount,  rate,  and  blocks — on  which  the  bank  wishes  its  loans  to 
be  placed,  he  places  the  individual  loans  as  he  finds  bidders  who 
are  willing  to  take  them  in  accordance  with  the  terms  he  is  em- 
powered to  make.  After  he  has  placed  the  loans,  he  notifies  the 
bank  of  the  name  of  the  borrower,  the  amount  loaned,  and  the 
rate.  Later  in  the  day  the  borrower  appears  at  the  bank  with  his 
collateral  and  obtains  the  funds.  The  brokers  handle  this  work 
for  the  lenders,  sometimes  on  a  salary  and  sometimes  on  a  com- 
mission basis,  at  a  rate  agreed  upon  between  them. 

The  Call  Loan  Contract. — In  making  stock  exchange  call 
loans,  no  note  is  used.  Instead  of  a  note,  each  borrower  signs  and 
deposits  with  the  bank  a  contract  (Form  25)  which  covers  all  the 
loans  made  to  him  while  he  continues  to  be  a  borrower.  The 
contract  authorizes  the  bank  to  use  the  borrower's  collateral  in 
settlement  of  any  indebtedness  which  may  be  owed  by  him.  It 
gives,  further,  a  lien  upon  the  borrower's  deposit  balance  and  any 
of  his  securities  in  the  bank's  possession  in  case  the  collateral 
deposited  for  the  specific  loan  is  not  sufficient  to  pay  it.  The  bank 
is  authorized  to  require  additional  security  at  its  option,  and  to 
foreclose  the  loan  without  notice  in  case  the  additional  security 


XVIII] 


LOANS  AND  DISCOUxNTS 


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294  BANKING  PRACTICE  [XVIII 

is  not  provided.  If  the  loan  is  not  paid  when  called,  the  bank  is 
authorized  to  sell  the  collateral  on  the  stock  exchange  or  at  public 
auction  and  to  retain  the  funds  needed  to  reimburse  itself,  return- 
ing the  amount  which  is  left,  if  any,  to  the  borrower.  The  con- 
tract is  a  continuing  obligation  and  mentions  no  specific  loans 
and  no  specific  collateral.     In  effect,  therefore,  the  bank  has  a 


In  consfderation  of  one  dollar  paid  to  the  undersigned,  and  of  the 
making  of  the  loans  referred  to  in  the  within  agreement,  at  the  request  of 
the  undersigned,  the  undersigned  hereby  jointly  and  severally  guarantee  to 
THE  NATIONAL  CITY  BANK  OF  NEW  YORK,  its  successors  and 
assigns,  the  punctual  payment,  at  maturity,  of  the  loans  so  made,  and 
hereby  assent  to  all  the  terms  and  conditions  of  the  said  agreement,  and 
consent  that  the  securities  for  any  such  loan  may  be  exchanged  or  surren- 
dered from  time  to  time,  or  the  time  of  payment  of  the  said  loans  or  any  of 
them  extended,  without  notice  to  or  further  assent  from  the  undersigned, 
who  will  remain  bound  upon  this  guaranty,  notwithstanding  such  changes, 
surrender  or  extension. 


Form  25.     (b)  Loan  Contract  (reverse). 

hen  upon  any  of  the  borrower's  property,  which  it  may  hold  until 
the  obligations  due  from  him  are  settled. 

"Work  of  the  Discount  Clerk. — In  advancing  funds  by  the 
process  of  discounting  an  item,  several  clerical  details  must  be 
attended  to  before  the  proceeds  can  be  delivered  to  the  borrower. 
When  the  discount  has  been  approved  and  the  rate  at  which  the 
note  is  to  be  discounted  has  been  indicated,  the  discount  clerks 
first  "time"  the  item.  This  consists  in  finding  the  due  date  and 
indicating  it  on  the  face  of  the  note.  The  next  step  is  to  calculate 
the  discount.  The  actual  nuniber  of  days  which  the  item  has  to 
run  before  maturity  is  taken  as  the  basis.    The  interest  is  cal- 


XVIII]  LOANS  AND  DISCOUNTS  295 

culated  on  the  amount  due  upon  the  note  or  acceptance  at  matur- 
ity, which  amount  is  usually  the  face  value  of  the  note.  If  the 
note  reads,  "with  interest,"  the  interest  is  calculated  and  added 
to  the  face  value  of  the  note  and  the  discount  is  calculated  upon 
this  total. 

While  the  actual  number  of  days  are  counted  in  arriving  at  the 
term  of  discount,  the  discount  itself  is  calculated  on  the  basis  of 
360  days  to  the  year.  The  amount  of  the  interest  due  on  the  note 
is  usually  determined  by  consulting  interest  tables,  but  where 
these  are  not  available  the  calculation  may  be  made  easily  in  this 
way:  First  multiply  the  amount  of  the  note  by  the  number  of 
days  to  run  and  point  off  two  places;  then  divide  this  figure  by 
that  obtained  by  dividing  the  given  interest  rate  into  360.  The 
result  is  the  interest  for  the  given  number  of  days.  Thus,  if  a  note 
is  to  be  discounted  at  6  per  cent,  the  divisor  will  be  60;  if  the  rate 
is  5  per  cent,  the  divisor  will  be  72.  The  interest  can  in  this  way 
be  readily  calculated  for  any  rate. 

In  addition  to  timing  the  note  and  calculating  the  interest, 
the  discount  clerk  affixes  the  proper  number  of  revenue  stamps; 
and  in  some  cases  where  notes  are  payable  at  some  other  place,  he 
adds  exchange  charges.  After  these  various  charges  have  been 
deducted,  the  proceeds  are  ready  for  delivery  to  the  customer. 

Other  Duties  of  the  Loan  and  Discount  Department. — The 
work  of  the  loan  and  discount  department  is  not  confined  to 
making  loans.  The  employees  have  certain  duties  to  perform 
between  the  time  of  making  the  loan  and  its  eventual  payment. 
For  example,  when  a  collateral  loan  is  made,  the  loan  agreement 
is  usually  to  the  effect  that  the  borrower  shall  be  permitted  to 
withdraw  at  any  time  portions  of  the  collateral  he  has  deposited, 
provided  he  substitutes  other  acceptable  securities  in  their  stead. 
This  is  a  very  important  privilege,  inasmuch  as  it  frequently 
happens  that  the  borrower  desires  to  dispose  of  the  particular 
collateral  which  he  has  put  up  as  security  for  the  loan.    Hence 


296  BANKING  PRACTICE  f  XVIII 

borrowers  under  this  arrangement  are  permitted  to  sell  securities 
pledged  with  their  banks,  and  to  withdraw  them  for  delivery  to 
the  buyer.  Furthermore,  when  the  prices  for  securities  rise, 
brokers  may  withdraw  the  excess  of  their  collateral  over  the  bank's 
requirement  as  to  margin.  Or  they  may  from  time  to  time  make 
payments  upon  their  loans.  In  either  of  these  cases  the  surrender 
of  part  of  the  collateral  is  allowed.  In  withdrawing  collateral  the 
borrower  signs  a  substitution  certificate,  requesting  the  bank  to 
deliver  certain  designated  securities  and  to  receive  certain  others 
from  him  in  exchange. 

Changes  in  Merchandise  Loan  Collateral. — Changes  in  the 
collateral  of  merchandise  loans  may  also  be  made.  Such  collateral 
consists  of  warehouse  receipts  covering  the  commodity  on  the 
value  of  which  a  loan  is  granted.  Borrowers  frequently  substitute 
one  commodity  for  another,  or  one  grade  for  another  grade  of 
the  same  commodity.  Furthermore,  in  the  repayment  of  most 
merchandise  loans,  the  bank  permits  borrowers  to  make  partial 
payment  and  this  necessitates  the  release  of  a  portion  of  the  com- 
modity. The  warehouse  receipts  are  indivisible,  but  provision  is 
made  for  withdrawing  part  of  the  goods  in  the  following  manner: 
The  borrower  furnishes  the  bank  with  a  trust  receipt  or  a  certified 
check  covering  the  full  value  of  the  collateral,  that  is,  the  goods 
stored  in  the  warehouse.  The  bank  then  delivers  the  ware- 
house receipts  to  the  borrower  and  he  withdraws  the  portion 
agreed  upon.  He  obtains  from  the  warehouse  a  receipt  cover- 
ing the  amount  still  in  storage.  This  receipt  is  returned  to  the 
bank  and  his  trust  receipt  is  canceled,  or  his  certified  check  is 
returned. 

Goods  held  in  storage  are  frequently  released  for  purposes  of 
manufacture  or  sale,  or  transportation  to  another  warehouse. 
In  such  cases  the  borrower  executes  a  trust  receipt  under  which 
he  agrees  that  title  to  the  goods  shall  remain  with  the  bank,  that 
he  will  use  the  commodity  released  only  for  the  purpose  agreed 


XVIII]  LOANS  AND  DISCOUNTS  297 

upon,  and  that  he  will  restore  the  value  of  the  commodity  to  the 
bank  after  it  has  served  the  purpose  agreed  upon.  Though  a 
trust  receipt  depends  for  its  value  upon  the  credit  standing  of  the 
party  who  executes  it,  such  a  document  exercises  also  a  certain 
restraint  upon  the  borrower,  since  it  makes  him  liable  to  criminal 
prosecution  for  misapplication  of  the  commodity  held  or  of  the 
proceeds  of  the  commodity  if  it  is  sold.  Of  course,  in  accepting 
new  collateral  for  any  form  of  secured  loan,  the  bank  subjects 
the  new  collateral  to  the  same  scrutiny  that  was  given  to  the  old 
collateral. 

Collateral  Margin  and  Market  Price. — It  is  the  duty  of  all  the 
employees  in  the  loan  and  discount  department  to  see  that  the 
margin  of  security  demanded  by  the  bank  is  maintained.  As 
already  stated,  the  bank  may  call  for  additional  security  in  sup- 
port of  loans  at  any  time  it  desires.  Where  the  collateral  consists 
of  inactive  stocks  and  bonds,  or  merchandise,  or  other  forms  of 
property,  it  is  rarely  necessary  for  a  bank  to  give  much  attention 
to  the  matter  of  margins.  Where  the  collateral  consists  of  securi- 
ties actively  traded  in  on  the  exchange,  it  is  necessary  to  give 
close  attention  to  the  margins,  inasmuch  as  violent  fluctuations 
in  the  market  value  of  some  of  the  stocks  and  bonds  deposited  as 
security  may  quickly  cause  a  considerable  shrinkage  in  the  value 
of  the  collateral. 

The  loan  and  discount  department  keeps  watch  on  the  market 
quotations  for  securities  pledged  with  the  bank,  and  if  the  market 
price  for  any  of  these  falls  to  a  point  where  the  borrower's  margin 
is  not  satisfactory,  a  call  is  made  for  additional  security.  While  a 
bank  may  sell  collateral  and  close  out  loans  if  the  calls  for  addi- 
tional margin  are  not  heeded,  this  is  rarely  done.  Usually  calls 
for  margin  are  sent  out  in  the  evening,  and  the  borrower  is  re- 
quired to  restore  the  margin  during  the  next  day.  Since  bor- 
rowers keep  a  record  of  their  own  margins,  a  call  for  additional 
security  on  the  part  of  the  bank  is  rarely  necessary. 


298  BANKING  PRACTICE  [XVIII 

Recording  Changes  in  the  Call  Loan  Rate. — Still  another  duty 
devolving  upon  the  loan  and  discount  department  during  the  life 
of  the  loan  is  to  keep  in  touch  with  changes  in  interest  rates.  The 
usual  agreement  in  connection  with  stock  exchange  call  loans  is 
that  the  bank  is  to  charge  a  rate  of  interest  in  conformity  with  the 
renewal  rate  quoted  on  the  exchange.  However,  banks  do  not 
follow  this  rule  literally.  Some  banks,  as  already  said,  have  a  max- 
imum interest  rate  for  borrowers  who  are  depositors.  In  connec- 
tion with  other  loans,  usually  only  the  larger  changes  in  rates  are 
taken  account  of.  If  the  rate  is  to  be  changed,  the  employees  in 
the  department  record  the  fact  in  the  loan  ledger,  so  that  when 
interest  is  later  computed  it  will  be  calculated  at  these  varying 
rates.  The  borrower  is  notified  of  the  change  in  the  rate  as  soon  as 
possible  on  the  day  it  is  made.  If  the  rate  is  not  satisfactory,  he 
can  borrow  the  money  from  another  bank  and  pay  off  his  loan. 
It  usually  happens,  however,  that  the  rates  charged  by  all  banks 
in  an  important  center  like  New  York  are  practically  uniform. 

Coupon  Collections  and  Interest  Payments. — On  advances 
that  run  for  a  long  term,  and  on  call  loans  which  run  for  an  in- 
definite period,  the  loan  and  discount  department  collects  in- 
terest during  the  life  of  the  loan.  On  call  loans  in  New  York  it  is 
customary  to  collect  interest  at  the  end  of  each  month.  On  time 
loans,  interest  is  usually  collected  not  less  frequently  than  every 
three  months,  and  of  course  any  additional  interest  due  is  col- 
lected when  the  loan  is  repaid. 

During  the  life  of  the  loan,  the  bank  performs  certain  inci- 
dental functions  such  as  collecting  coupons  from  bonds  held  as 
collateral,  checking  up  and  making  comparisons  of  collateral 
lists,  calculating  interest  rates,  and  attending  to  other  details 
in  connection  with  borrowers'  loans. 

Discounts  Listed  for  Rediscount. — Discounted  notes  for 
which  collateral  security  has  been  deposited  require  little  atten- 


XVIII]  LOANS  AND  DISCOUNTS  299 

tion  from  the  bank  until  their  maturity.  However,  such  notes 
may  be  brought  out,  examined,  and  listed  for  the  purpose  of  re- 
discounting  with  the  federal  reserve  bank.  Under  the  provision 
of  the  Federal  Reserve  Act,  certain  of  the  notes  and  acceptances 
held  by  a  member  bank  may  be  rediscounted  with  a  federal  re- 
serve bank.  That  is,  if  a  bank  is  in  need  of  funds  it  may  take  some 
of  the  notes  which  it  previously  discounted  for  customers  and 
present  them  at  the  federal  reserve  bank,  and,  by  borrowing  on 
these  as  collateral,  receive  the  funds  needed.  The  paper  which 
the  federal  reserve  bank  will  accept  for  rediscount  or  as  collateral 
security  for  loans  is  termed  eligible  paper,  and  the  nature  or  re- 
quirements of  this  kind  of  paper  have  been  described  in  the  pre- 
ceding chapter.  The  decision  to  borrow  from  the  federal  reserve 
bank  is  made  by  the  officers  of  the  borrowing  bank,  but  usually 
the  loan  and  discount  department  is  called  upon  to  choose  and 
prepare  whatever  commercial  paper  is  to  be  used  for  securing  the 
loan.  This  department  also  prepares  an  application  for  the  loan 
on  the  standard  form  prescribed  by  the  federal  reserve  bank. 

Discounts  as  Security  for  Government  Deposits. — There  is 
another  occasion  for  handling  the  discounted  notes  before  ma- 
turity; that  is,  when  some  of  them  are  deposited  as  collateral  to 
secure  deposits  of  government  funds.  Such  deposits  must  always 
be  secured  either  by  government  bonds  or  by  satisfactory  notes 
and  acceptances  owned  by  the  bank.  Paper  to  be  used  for  this 
purpose  is  pledged  with  the  federal  reserve  bank,  which  acts  as  a 
trustee  to  safeguard  the  interests  both  of  the  government  and  the 
depository  bank.  The  loan  and  discount  department  looks  after 
the  collection  of  the  notes  it  holds  against  borrowers. 

The  Calling  of  Call  Loans.— In  the  case  of  call  loans,  it  will  be 
remembered,  payment  may  be  made  at  the  option  of  either  party. 
Ordinarily  the  bank  exercises  its  option  to  call  loans  only  when  it 
wishes  to  reduce  an  excessively  large  loan  made  to  one  borrower, 


300  BANKING  PRACTICE  [XVIII 

or  when  it  desires  to  build  up  its  reserves.  Since  the  call  loan 
can  be  converted  into  cash  within  a  few  hours,  this  type  of 
liquid  assets  forms  a  very  satisfactory  secondary  reserve  for 
banks.  Ordinarily,  however,  call  loans  run  for  a  considerable 
time. 

The  custom  in  demanding  repayment  of  a  call  loan  is  that  no 
demand  shall  be  made  until  after  the  loan  has  run  for  at  least  one 
day.  The  notice  of  the  call  for  repayment  is  sent  to  the  borrower 
as  early  in  the  day  as  possible,  so  that  he  may  arrange  to  pay  the 
loan  the  same  day.  If  the  call  has  been  made  before  ii  o'clock, 
the  borrower  is  expected  to  pay  by  2:15  in  the  afternoon.  The 
actual  payment  is  usually  made  by  means  of  a  certified  check, 
and  thereafter  the  collateral  is  delivered  to  the  owner. 

Payment  of  Time  Loans. — Time  loans  are  collected  as  they 
fall  due.  The  borrower  is  notified  of  the  date  of  maturity  some 
time  in  advance.  He  pays  either  by  sending  a  remittance  cover- 
ing the  face  of  the  loan  and  accrued  interest  or  by  having  his 
account  charged  with  the  amount.  Time  loans  are  sometimes 
renewed,  sometimes  paid  in  part,  and  sometimes  prepaid.  Occa- 
sionally borrowers  receive  funds  which  make  it  unnecessary  for 
them  to  continue  the  loan  and  they  therefore  apply  for  permission 
to  prepay  it.  Although  the  loaning  bank  often  permits  this 
prepayment,  the  practice  is  not  encouraged  because  it  might 
easily  be  abused.  Borrowers  might  arrange  loans  when  money 
rates  were  high  and  then  prepay  them  when  they  were  low, 
borrowing  the  money  to  do  this  at  another  bank. 

Payment  of  Discounts.— When  discounted  items  mature, 
they  are  presented  for  payment  to  their  local  makers  by  messen- 
gers; if  the  items  are  payable  out  of  town  they  are  sent  through 
the  collection  department  some  days  before  maturity  to  a  corre- 
spondent bank  for  collection.  If  the  person  liable  for  a  discount  is 
a  depositor  he  will  frequently  authorize  the  bank  to  charge  the 


XVIII]  LOANS  AND  DISCOUNTS  301 

maturing  item  to  his  account.  If  items  are  unpaid  at  maturity, 
they  are  sometimes  protested  just  as  are  checks  or  other  collec- 
tion items. 

Incidental  Activities  of  Loan  and  Discount  Department. — 

Besides  the  work  of  arranging  for  loans,  exercising  supervision 
over  them  while  they  are  in  the  hands  of  the  bank,  and  collecting 
them  when  due,  the  loan  and  discount  department  is  charged 
with  certain  other  duties.  One  of  these  is  the  loaning  of  money 
on  behalf  of  the  bank's  correspondents.  As  was  said  before 
many  out-of-town  banks  rely  upon  institutions  in  several  of  the 
large  cities  to  make  loans  for  them  on  call,  or  to  buy  commercial 
paper  for  them. 

Another  incidental  activity  of  the  department  is  that  of  keep- 
ing statistical  records  and  making  reports  of  various  kinds  to 
the  bank's  officials  as  an  aid  to  the  work  of  management.  The 
most  important  records  are  those  of  earnings  on  loans  and  dis- 
counts. The  earnings  from  loans  are  not  received  until  the  loans 
mature,  or  at  least  until  after  they  have  run  for  some  time; 
whereas  the  earnings  from  discounts  are  collected  when  the  ad- 
vance is  made.  This  difference  in  procedure  gives  rise  to  two 
different  methods  of  accounting  for  earnings. 

In  the  case  of  loans  the  bank  must  keep  a  record  of  the  in- 
terest accrued  thereon  but  not  paid,  because  each  day  the  loan 
runs  the  bank  is  entitled  to  interest  earned.  Such  accrued  in- 
terest is  usually  recorded  in  an  ''Interest  Earned  but  Not  Paid" 
account.  In  accounting  for  the  earnings  from  discounts  the  situa- 
tion is  reversed;  here  interest  is  paid  in  advance.  As  each  day 
passes,  another  portion  of  the  interest  already  paid  is  earned. 
To  record  the  true  condition  of  the  discounts  from  day  to  day,  an 
account  is  usually  opened  entitled  "Interest  Paid  but  Not 
Earned."  The  first  account  represents  an  asset  and  the  second 
account  is  a  liability.  Earnings  from  both  sources  are  credited  to 
the  Profit  and  Loss  account  in  the  general  ledger,  and  ultimately 


302  BANKING  PRACTICE  [XVIII 

appear  along  with  other  earnings  as  undivided  profits  on  the 
habihty  side  of  the  bank  statement. 

At  the  end  of  each  day's  business,  the  loan  and  discount  de- 
partment presents  a  summary  of  the  entries  arising  from  the  de- 
partment's work.  This  record  corresponds  in  some  degree  with 
the  daily  proof  made  up  in  the  other  departments. 

The  Department  Records. — The  chief  records  of  the  loan  and 
discount  department  consist  of  the  following: 

1.  Loan  cards,  upon  which  are  entered  the  name  of  the  bor- 
rower and  the  details  concerning  the  loan,  such  as  the  rate  of 
interest,  a  detailed  list  of  the  collateral  deposited,  and  any 
other  information  which  may  be  useful  in  connection  with  the 
transaction. 

2.  The  loan  ledger,  the  purpose  of  which  is  to  provide  a  de- 
tailed record  of  each  loan  outstanding. 

3.  The  loan  tickler,  a  book  with  a  page  devoted  to  each 
business  day,  so  that  the  total  of  all  loans  maturing  on  a  particu- 
lar date  may  be  ascertained  immediately  by  turning  to  the 
proper  page. 

4.  The  loan  journal,  in  which  the  loans  made  each  day  are 
entered  consecutively.  The  entries  for  each  loan  consist  of  a 
debit  representing  an  increase  in  the  assets  of  the  bank  and  a 
credit  representing  the  payment  of  the  loan  to  the  customer. 
The  debit  side  of  the  journal  shows  the  names  of  borrowers,  the 
rate  of  interest,  and  the  amount  of  the  loan  debited  to  the  proper 
general  ledger  account,  Demand  Loan  or  Time  Loan.  The  credit 
side  shows  a  credit  to  the  Cashier's  Check  account  or  to  the  cus- 
tomer's account. 

5.  The  customers'  liability  ledger  (Form  26),  containing  a 
page  or  section  for  each  borrower.  The  heading  of  the  account 
contains,  besides  the  name  and  address  of  the  customer,  the 
business  he  is  engaged  in;  the  names  of  those  having  authority  to 
borrow  for  the  account;  those  having  authority  to  sign;  guaran- 


XVIII] 


LOANS  AND  DISCOUNTS 


303 


304  BANKING  PRACTICE  [XVIII 

tors,  if  any;  the  maximum  amount  under  discount  during  the 
coming  year;  and  the  customer's  liabiHty  as  an  indorser.  This 
record  enables  the  department  and  the  officers  to  know  at  any 
time  to  what  extent  any  individual  borrower  is  liable  to  the  bank, 
either  for  himself  or  as  an  indorser  for  others. 


CHAPTER    XIX 
INVESTMENTS  IN  SECURITIES 

Major  Sources  of  Bank  Profits. — A  bank  has  two  major 

sources  of  profit  from  the  funds  which  it  uses:  the  profits  on  loans 
and  discounts,  and  the  profits  on  the  purchase  and  sale  of  securi- 
ties. Some  banks  derive  profit  from  the  ownership  of  real  estate, 
from  the  purchase  and  sale  of  farm  mortgages,  and  from  other 
uses  of  their  funds;  but  the  two  uses  mentioned  above  are  those  to 
which  the  resources  of  a  bank  are  most  frequently  put. 

Loans  and  discounts  are  not  expected  to  tie  up  the  funds  for  a 
long  period  and  such  advances  usually  mature  in  30,  60,  or  90 
days.  Though  some  of  these  obligations  may  be  renewed,  the 
majority  are  met  and  the  bank  always  has  the  option  of  requiring 
any  of  them  to  be  paid  at  maturity.  They  represent  a  highly 
liquid  form  of  investment.  The  purchase  of  bonds  or  securities, 
on  the  other  hand,  contemplates  the  tying  up  of  funds  for  a 
longer  period  and  the  investment  is  of  a  relatively  fixed  character. 
While,  therefore,  most  commercial  banks  may  hold  securities, 
such  investments  are  considered  to  be  of  a  savings  bank  rather 
than  of  a  commercial  bank  nature. 

The  two  preceding  chapters  have  dealt  with  the  profit  derived 
from  loans  and  discounts;  in  this  chapter  will  be  considered  the 
profits  arising  from  investments  in  securities. 

The  Nature  of  Bond  Investments. — The  published  state- 
ments of  the  majority  of  commercial  banks  contain  among  their 
assets  a  heading  "Bonds  and  Other  Securities."  These  items 
generally  consist  of  government  bonds  and  corporate  obligations, 
and  in  some  cases  even  shares  of  stock.  Objection  has  been  made 
to  the  purchase  of  corporation  stock  as  a  bank  investment  on  the 
20  305 


306  BANKING  PRACTICE  [XIX 

ground  that  the  stockholder  is  a  proprietor  or  partner  in  the 
business  and  as  such  has  no  claim  upon  the  assets  of  the  concern 
until  all  other  claims  are  satisfied.  His  claim  for  dividends  is 
preceded  by  the  claims  of  the  bondholders  and  of  the  preferred 
stockholders  who  must  be  taken  care  of  before  dividends  can  be 
declared  on  the  common  stock.  Investment  in  bonds,  accord- 
ingly, is  supposed  to  indicate  a  stronger  financial  position  on  the 
part  of  the  bank  than  large  holdings  of  corporate  stock.  Bonds 
are  usually  based  upon  tangible  property  values;  they  bear  a 
fixed  rate  of  interest  which  must  be  paid  before  any  distribution 
of  dividends  may  be  made;  and  the  bondholders,  if  their  interest 
be  not  paid,  may  seize  the  property  and  sell  it,  taking  sufficient 
of  the  proceeds  of  the  sale  to  repay  to  themselves  both  principal 
and  interest. 

In  spite  of  the  general  recognition  of  the  fact  that  tne  return 
on  stocks  is  too  uncertain  to  recommend  them  as  an  investment 
for  bank  funds,  it  is  true  that  many  banks  have  invested,  and  to 
some  extent  do  still  invest  their  funds  in  stocks.  One  important 
exception,  moreover,  must  be  made  to  the  statement  that  they 
are  not  expected  to  buy  shares  of  stock.  The  Federal  Reserve 
Act  requires  each  member  bank  to  subscribe  an  amount  equal  to 
6  per  cent  of  its  paid-in  capital  and  surplus  to  the  stock  of  the 
reserve  bank  in  its  district. 

Motives  for  Buying  Bonds. — A  considerable  portion  of  the 
bonds  held  by  banks  today  consists  of  the  Liberty  and  Victory 
bonds  which  were  floated  during  the  Great  War.  The  purchase 
of  these  securities  was  dictated  not  primarily  by  investment  con- 
siderations but  rather  by  patriotic  motives.  Part  of  the  war 
service  of  the  banks  was  to  purchase  war  bonds  as  liberally  as 
possible  for  themselves  and  to  aid  in  every  possible  manner  in  the 
distribution  of  the  bonds  among  the  public.  While  this  state- 
ment applies  to  the  original  subscriptions  for  the  bonds,  pur- 
chases made  later,  when  these  bonds  sold  considerably  below 


XIX]  liWESTMENTS  IN  SECURITIES  30? 

par,  were  dictated  by  a  sound  and  shrewd  policy  of  careful 
investment. 

Other  reasons  bring  about  the  investment  of  a  bank's  funds 
in  various  types  of  bonds.  Under  the  National  Banking  Act, 
those  national  banks  which  desire  to  issue  bank  notes  are  required 
to  purchase  government  bonds  of  certain  issues  for  deposit  with 
the  Treasury  Department  as  security  for  their  note  issues. 
Furthermore,  government,  state,  and  municipal  bonds,  as  well  as 
certain  other  types  of  securities,  are  accepted  as  security  for 
Treasury  deposits.  The  laws  permit  the  Secretary  of  the  Treas- 
ury and  the  Treasury  officials  of  the  minor  political  divisions  to 
deposit  public  funds  in  national  and  state  banks,  provided  the 
banks  guarantee  the  security  of  such  deposits  by  depositing  with 
such  officials  bonds  of  a  prescribed  character  to  an  amount  equi- 
valent to  or  greater  than  the  funds  deposited.  The  desire  of 
banks  to  obtain  these  deposit  accounts  leads  to  extensive  invest- 
ment of  their  funds  in  bonds  of  the  three  types  just  mentioned. 

Bonds  as  a  Secondary  Reserve.— Another  reason  for  the 
popularity  of  bond  investments  among  American  banks  is  that 
such  investments  are  looked  upon  as  providing  a  good  secondary 
reserve.  Commercial  banks  receive  mainly  deposits  which  are 
subject  to  withdrawal  on  demand  or  on  very  short  notice.  For 
this  reason  they  must  keep  the  bulk  of  their  assets  in  such  liquid 
form  that  they  can  meet  any  sudden  demands  made  upon  them. 
The  main  reserve,  or  what  may  be  called  the  first  line  of  defense, 
is  of  course  the  cash  on  hand,  or  in  the  federal  reserve  bank,  and 
the  maturing  short-time  obligations  which  are  represented  by 
loans  and  discounts.  It  is  desirable,  however,  for  banks  to  invest 
some  of  their  funds  in  securities  which  will  not  mature  so  rapidly 
and  which  therefore  will  not  require  reinvestment  so  frequently. 
While  a  bank  needs  some  investments  of  a  permanent  character, 
no  bank  can  afford  to  invest  its  funds  in  securities  that  will  tie 
up  its  assets  for  a  long  period.    A  solution  of  the  problem  seems  to 


308  BANKING  PRACTICE  [XIX 

lie  in  the  purchase  of  bonds,  which  investments,  though  they 
usually  run  for  long  periods  of  time,  are  presumed  to  be  highly 
liquid  inasmuch  as  they  are  dealt  in  freely  on  the  leading  stock 
exchanges.  The  banker  regards  them  as  his  secondary  reserve  in 
the  sense  that,  while  they  give  him  a  long-time  investment,  he  can 
realize  upon  them  if  necessary  on  short  notice.  This  is  the  justi- 
fication usually  given  for  the  investments  made  by  banks  in  such 
securities. 

Investigation  has  shown,  however,  that  these  securities  are 
not  as  liquid  as  many  bankers  have  thought.  While  it  is  true 
that  there  is  nearly  always  a  ready  market  for  sound  bond  invest- 
ments, it  by  no  means  follows  that  a  bank  can  sell  them  at  the 
price  paid  for  them.  In  a  falling  market  the  price  of  all  bonds 
declines,  more  or  less,  good  and  poor  alike.  It  has  been  shown 
by  students  of  the  subject  that  in  times  when  money  is  plentiful 
banks  buy  large  quantities  of  bonds  on  the  theory  that  they  can 
dispose  of  them  when  necessary  for  cash.  Usually,  however, 
when  the  pinch  comes  and  they  need  money,  the  price  of  securi- 
ties is  declining.  At  such  a  time  to  realize  on  the  investment 
might  result  in  a  considerable  loss.  Hence  the  bank  holds  the 
securities  and  tries  to  strengthen  its  position  by  accumulating 
cash  and  compelling  the  payment  of  loans.  That  which  was 
designed  to  serve  as  a  secondary  reserve  becomes  a  permanent 
investment  and  is  not  used  as  a  reserve  at  all. 

Opportunities  for  Profit  from  Corporation  Securities. — Un- 
doubtedly one  of  the  most  important  reasons  for  the  purchase  of 
corporation  securities  by  banks  is  the  opportunity  thus  afforded 
for  profit.  Many  of  these  securities  yield  a  higher  rate  of  re- 
turn than  other  types  of  investment,  and  many  bring  with 
them  incidental  advantages  which  increase  the  bank's  profits 
or  extend  its  business  in  indirect  ways.  Some  banks  also  par- 
ticipate in  underwriting  operations,  and  as  a  result  either  buy 
stocks  for  their  own  account  voluntarily,  or  are  compelled  to 


XIX]  INVESTMENTS  IN  SECURITIES  309 

take  their  portion  of  the  securities  which  the  syndicate  is  unable 
to  sell. 

It  is  important  to  note  that  the  total  investment  of  banks 
in  bonds  and  securities  has  been  growing  with  great  rapidity. 
On  theoretical  grounds  this  would  seem  to  be  an  undesirable 
tendency. 

Investment  Service  for  Customers. — While  all  banks  to  a 
greater  or  less  extent  make  investments  in  bonds  and  securities 
for  their  own  account,  many  of  them  also  buy  and  sell  securities 
for  their  customers.  In  such  transactions  the  bank  does  not  itself 
go  into  the  stock  market  and  buy  securities;  it  acts  merely  as  an 
agent,  turning  over  the  execution  of  the  order  to  a  regular  member 
of  the  exchange.  This  business  has  assumed  such  large  propor- 
tions in  the  activities  of  some  of  the  large  banks  that  they  have 
organized  affiliated  bond  and  investment  houses  to  care  for  these 
transactions.  Where  the  bank  itself  acts  as  agent,  a  particular 
ofhcial  may  be  given  charge  of  the  work;  or  if  the  volume  of  the 
transactions  is  large  enough,  a  separate  department  such  as  the 
bond  department  may  be  created.  The  purchase  and  sale  of 
securities  may  be  carried  on  for  profit  or  merely  as  a  service  to 
customers. 

An  investor  in  the  interior  of  the  country  may  ask  his  banker 
for  advice  about  the  investment  of  his  savings,  or  he  may  ask  that 
a  particular  security  be  purchased  for  him.  The  bank,  having  no 
direct  connection  with  the  security  market,  sends  the  order  or 
request  for  information  to  its  city  correspondent,  and  the  corres- 
pondent in  turn  obtains  the  information  or  has  the  order  executed 
on  the  stock  exchange.  Frequently  national  banks  in  the  smaller 
towns  and  cities  request  their  city  correspondents  to  purchase  the 
bonds  which  they  require  to  secure  their  note  circulation  or  to 
guarantee  public  deposits.  The  extent  to  which  these  transac- 
tions have  become  centralized  in  New  York  is  indicated  by  the 
fact  that  before  the  war  one  large  bank  in  New  York  City  trans- 


3IO  BANKING  PRACTICE  [XIX 

acted  more  than  90  per  cent  of  the  business  in  government  bonds 
in  the  whole  country. 

Borrowing  and  Lending  Bonds. — Bonds  are  not  only  bought 
and  sold  by  banks;  they  are  also  borrowed  and  loaned.  This 
practice  is  not  so  common  now  as  it  was  a  few  years  ago.  The 
effect  of  the  monopoly  granted  to  United  States  government 
bonds  of  specified  issues  of  serving  as  collateral  for  securing  note 
circulation  and  public  deposits  was  to  give  these  bonds  an  ab- 
normally high  value  on  the  market,  a  value  so  high,  indeed,  that 
there  was  no  profit  in  owning  them.  Under  these  circumstances 
many  banks  seized  favorable  opportunities  to  dispose  of  their 
holdings  of  government  securities.  To  provide  for  their  needs  in 
governmental  collateral,  the  banks  then  arranged  to  borrow  from 
some  other  owner  of  government  bonds  the  securities  they  re- 
quired. The  owner  of  the  bonds  was  secured  by  a  trust  receipt 
and  the  borrower,  that  is  the  bank,  paid  a  moderate  rate  or  fee 
for  their  use.  This  charge,  added  to  the  interest  received  from  the 
bonds,  gave  their  owner  a  more  satisfactory  income,  while  the 
borrowing  bank  profited  because,  instead  of  buying  the  bonds  at  a 
high  price  and  thus  tying  up  its  liquid  assets,  it  had  the  use  of  the 
bonds  for  the  payment  of  a  small  fee. 

Market  Value  of  Investment  Assets. — Since  the  price  of  the 
securities  held  by  a  bank  is  constantly  fluctuating  on  the  stock 
market,  it  is  necessary  that  their  value  as  shown  among  the  assets 
of  the  bank,  should  tally  as  closely  as  possible  with  their  market 
value.  It  is  not  possible,  of  course,  to  change  the  figures  on 
the  books  with  every  change  in  market  price.  The  procedure 
generally  is  to  list  securities  at  the  price  paid  for  them  and 
then  occasionally  to  go  over  such  investments,  changing  the 
price  at  which  they  are  carried  on  the  bank's  books  to  corre- 
spond with  the  market  price  at  such  time.  The  difference  be- 
tween the  original  purchase  price  and  the  price  at  the  time  of 


XIXI  INVESTMENTS  IN  SECURITIES  31  i 

making  the  readjustment  constitutes  either  a  profit  or  a  loss 
for  the  bank. 

Accrued  Interest  on  Investment  Securities.— To  ascertain  a 
bank's  earnings  up  to  a  given  date,  it  is  necessary  to  account  for 
the  constantly  accruing  interest  on  its  bonds.  Bond  interest  is 
paid  at  stated  intervals,  usually  twice  a  year.  In  the  interval 
between  these  payments,  however,  a  certain  amount  of  interest 
accumulates  daily.  It  is  therefore  necessary,  if  the  bank  wishes 
to  make  an  accurate  statement  of  its  finandal  position,  to  keep 
a  record  of  the  amount  which  each  day  adds  to  the  interest  due 
on  its  securities.  This  revenue  is  usually  recorded  in  an  Accrued 
Interest  account. 

Record  and  Custody  of  Securities. — The  safe-keeping  of  a 
bank's  securities  demands  care  and  consideration.  Not  only  do 
they  represent  a  large  value  in  small  bulk,  which  might  easily  be 
concealed  and  carried  away,  but  they  are  also  frequently  in  a 
negotiable  form  which  makes  them  the  more  easily  disposed  of  by 
unscrupulous  persons.  Accordingly,  careful  records  are  made  of 
the  securities  as  they  come  into  the  possession  of  the  bank;  and 
while  in  its  possession  they  are  kept  in  special  compartments  in 
the  vaults  to  which  only  specially  designated  officials  or  employees 
have  access.  As  a  further  safeguard  it  is  the  common  practice 
to  permit  securities  to  be  removed  from  the  vaults  only  when  at 
least  two  authorized  persons  are  present. 

The  records  kept  vary  with  different  banks.  In  general,  what 
the  bank  requires  is  a  complete  description  of  the  securities,  in- 
cluding in  every  case  the  serial  number,  the  amount,  the  date 
purchased,  the  market  price,  and  similar  data.  For  convenience 
in  obtaining  information  in  regard  to  any  bond  issue,  most  banks 
maintain  a  file  of  security  cards  on  which  appear  such  data  as  the 
rate  of  interest,  the  number  of  bonds  held,  the  date  when  interest 
is  due.  and  so  on.    Any  information  relative  to  bond  investments 


312  BANKING  PRACTICE  [XIX 

which  the  bank  officials  may  have  occasion  to  seek  can  thus  be 
obtained  readily  without  actually  examining  the  bonds  them- 
selves. 

Reinvestments.— The  managing  officials  are  kept  informed  as 
to  the  maturity  dates  of  the  bank's  bond  investments,  and  are 
also  informed  as  to  the  amount  of  bonds  on  hand  and  the  amounts 
purchased  from  day  to  day.  This  enables  them  to  make  plans  for 
the  reinvestment  of  funds  which  are  likely  to  be  received  in  the 
near  future. 


CHAPTER    XX 

KEEPING  THE  INDIVIDUAL  LEDGERS 

Information  Furnished  by  Bank  Accounting. — Bank  book- 
keeping is  frequently  said  to  be  the  simplest  form  of  accounting. 
Whether  this  be  true  or  not,  it  is  certain  that  when  the  subject  of 
bank  accounting  is  looked  at  as  a  whole  it  seems  very  complicated. 
The  reason  for  the  seeming  difficulty  is  the  fact  that  it  is  neces- 
sary for  the  bank,  because  of  the  nature  of  its  operations,  to 
maintain  a  very  complicated  system  of  checks  and  controls.  The 
same  operation  from  the  accounting  point  of  view  may  be  per- 
formed several  times  so  that  each  entry  may  serve  as  a  check 
upon  the  others.  This  duplication  of  entries  is  clearly  seen  when 
a  bank  employs  two  men  to  make  exactly  the  same  postings. 
The  work  done  by  one  is  verified  by  comparing  it  with  the  work 
done  by  the  other. 

The  entries  required  for  the  actual  recording  of  banking 
transactions  represent  a  small  fraction  of  the  work  done  by  the 
accounting  departments.  The  nature  of  the  accounting  is  deter- 
mined by  the  information  required.  Stated  in  their  simplest 
terms  these  needs  may  be  said  to  consist  of: 

1.  A  history  of  transactions  as  they  occur  for  future  reference 

and  reminders  of  matters  to  be  attended  to  from  day 
to  day;  these  needs  give  rise  to  the  journal  and  tickler 
records. 

2.  Information  as  to  the  bank's  position  with  reference  to  its 

customers;  the  customers  or  individual  ledgers  meet  this 
need. 

3.  Information  from  which  the  bank  can  draw  up  its  balance 

sheet  and  can  determine  its  profit  and  losses;  this  need 
is  met  by  the  general  or  controUing  ledgers. 
313 


SH  BANKING  PRACTICE  [XX 

Records  which  give  these  three  types  of  information  comprise 
all  that  is  essential  in  bank  accounting. 

Essential  Books  for  Bank  Accounting. — The  books  which  have 
been  found  convenient  for  keeping  the  above  records  may  be 
divided  into  two  groups:  those  which  contain  the  records  of  the 
bank's  activities  and  of  its  relation  to  its  shareholders;  and  those 
which  contain  the  financial  records  of  the  bank  in  its  relation  with 
people  other  than  shareholders.  In  the  first  group  the  books 
used  are  the  minute  book,  the  stock  ledger,  stock  certificate  book, 
and  the  stock  transfer  book.  The  second  group  includes  the 
following  books:  journals,  general  ledgers,  customers  ledgers, 
certificate  of  deposit  register,  cashier's  check  register,  draft  re- 
gister, loan  register,  collection  register,  tellers'  settlement  books, 
scratchers  and  ticklers. 

Accounting  in  a  Small  Bank. — In  a  small  bank  the  work  of 
recording  transactions  with  customers  may  be  performed  by  one 
or  more  men;  in  a  metropolitan  bank  the  clerical  work  may  re- 
quire the  services  of  a  large  number  of  employees.  Although  the 
transactions  of  a  large  bank  may  be  much  more  numerous  and 
although  verification  may  take  place  more  frequently,  the  work 
yields  nothing  more  in  the  last  analysis  than  does  the  simple 
bookkeeping  and  small  numbers  of  entries  performed  by  one  man 
in  a  small  bank.  The  activities  carried  on  in  the  larger  banks 
seem  to  be  more  complicated  merely  because  of  the  greater  divi- 
sion of  labor.  If  this  point  be  kept  in  mind  the  understanding  of 
bank  accounting  is  simplified. 

Books  of  Original  Entry. — The  work  of  entering  transactions 
in  journals,  books  of  memoranda,  and  ticklers  is  performed  at  the 
time  the  transactions  occur  by  the  persons  who  handle  them. 
Thus,  when  deposit  slips  are  given  to  a  bookkeeper  to  be  posted 
to  the  accounts  of  customers,  he  or  his  assistant  writes  the  name 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  315 

of  the  depositor  and  the  amount  of  the  deposit  in  the  deposit 
journal.  Or,  when  the  note  of  a  customer  is  discounted,  a  record 
of  the  amount,  date,  due  date,  signer,  indorser,  and  place  of  pay- 
ment of  such  note,  is  entered  on  a  discount  or  loan  tickler.  The 
purpose  of  these  books  of  original  entry  is  to  keep  a  record  of  each 
transaction  as  it  occurs  so  that,  if  any  of  the  documents  should 
be  misplaced,  a  record  would  be  at  hand  for  reference. 

At  the  end  of  the  day's  business  these  various  books  of  original 
entry  are  totaled.  If  all  entries  have  been  made  correctly,  the 
total  will  correspond  with  the  total  of  the  deposits,  discounts,  or 
checks,  or  whatever  items  they  record  which  have  been  handled 
by  the  departments  concerned.  To  make  the  entries  in  these 
books  requires  merely  the  clerical  labor  of  writing  in  names, 
amounts,  and  dates  in  accordance  with  the  headings  of  the  vari- 
ous columns  in  the  book.  The  procedure  is  so  simple  as  to  require 
no  extended  explanations. 

The  Individual  Ledger  Bookkeeper. — The  work  of  the  in- 
dividual or  customers  ledger  bookkeeper  in  its  simplest  terms 
consists  of  posting  checks  and  deposits  to  the  accounts  of  indi- 
viduals, and  keeping  a  constant  record  of  the  balance  in  each 
account.  Certain  deposit  items,  which  are  represented  by  deposit 
slips,  are  received  for  credit  to  the  accounts  of  the  bank's  de- 
positors. Certain  other  items,  i.e.,  checks,  represent  orders 
transmitted  to  the  bank  by  these  depositors  to  pay  portions  of 
their  balance  either  to  themselves  or  to  others.  These  checks  are 
to  be  charged  to  the  accounts.  The  work  of  the  bookkeeper  con- 
sists of  entering  in  the  column  set  aside  for  checks  the  charge 
items,  and  in  the  column  for  deposits  the  credit  items.  He  then 
adds  the  deposits  to  the  balance  already  standing  on  the  ledger, 
subtracts  the  amount  of  the  checks,  and  brings  down  the  balance 
remaining  in  the  customer's  account.  Although  there  are  certain 
incidental  duties  for  the  bookkeeper  to  perform,  the  brief  state- 
ment just  given  outlines  the  main  portion  of  his  work. 


31 6  BANKING  PRACTICE  [XX 

The  General  Ledger  Bookkeepers. — In  addition  to  the  de- 
tailed records  showing  the  financial  relations  between  the  bank 
and  individuals,  the  management  desires  to  know  the  bank's 
position  with  relation  to  customers  and  stockholders  en  masse. 
That  is,  besides  knowing  the  amount  of  the  credit  balance  of 
John  Smith,  William  Jones,  and  various  other  depositors,  the 
bank  officials  desire  to  know  the  total  amount  that  the  bank  owes 
to  all  its  depositors.  The  same  thing  is  true  with  regard  to  loans. 
In  addition  to  knowing  the  amount  of  A's  borrowing  from  the 
bank,  and  B's  borrowing,  it  is  necessary  to  know  the  total  of  all 
loans  made  by  the  bank. 

Furthermore,  the  bank  is  a  private  corporation  the  function- 
ing of  which  is  made  possible  by  contributions  of  funds  from 
various  individuals  in  exchange  for  the  bank's  capital  stock.  The 
assets  of  the  bank  after  all  other  claims  are  satisfied  belong  to 
these  shareholders  or  proprietors.  It  is  necessary,  therefore, 
that  the  bank  keep  an  account  with  these  proprietors;  that  is,  it 
is  necessary  to  show  the  status  of  the  capital  account. 

In  simplest  terms,  then,  it  is  the  function  of  the  general  ledger 
to  record  changes  in  the  bank's  financial  position  with  reference 
to  the  proprietors  and  to  other  persons  in  the  aggregate.  Accord- 
ingly, any  change  which  increases  the  bank's  indebtedness  or  re- 
sponsibility toward  others  becomes  a  liability,  and  any  transaction 
which  increases  its  stock  of  valuable  goods  or  claims  against  others 
is  reflected  in  a  growth  in  its  assets. 

The  work  of  the  general  ledger  bookkeepers  will  be  discussed 
in  more  detail  in  the  following  chapter.  In  this  chapter  is  con- 
sidered the  actual  practice  of  the  bookkeepers  in  handling  the 
material  to  be  entered  upon  the  depositors  ledgers. 

Personnel  for  Customers  Ledgers. — The  work  in  the  deposi- 
tors ledger  department  is  performed  by  a  bookkeeper  for  each 
ledger,  by  statement  clerks  (sometimes  one  for  each  ledger)  and 
such  clerical  assistants  as  are  needed.    The  duties  performed  by 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  317 

these  various  employees  will  be  made  clear  when  the  routine  work 
of  the  department  is  discussed.  In  addition  to  these  employees, 
certain  large  banks  have  what  they  call  a  check  desk  where  the 
data  and  items  to  be  entered  on  the  books  are  prepared  for  post- 
ing. In  smaller  banks  this  preparation  is  done  by  the  bookkeepers 
and  their  assistants.  The  actual  bookkeeping  operations  in  the 
department  consist  of  making  postings  to  the  depositors'  accounts 
and  of  preparing  statements  of  accounts  to  be  rendered  to  cus- 
tomers periodically.  These  two  operations  are  performed  con- 
currently and  one  acts  as  a  check  upon  the  other. 

Depositors  Ledgers  Classified. — In  a  bank  of  any  considerable 
size  it  would  be  a  physical  impossibility  for  one  man  to  look  after 
all  the  accounts  of  the  depositors.  Hence,  all  large  banks  divide 
the  accounts  into  convenient  units  and  assign  one  bookkeeper  to 
each  unit.  These  units  generally  consist  of  the  accounts  kept  in 
a  single  ledger  volume,  although,  if  the  clerical  force  for  any  rea- 
son is  inadequate,  exceptionally  expert  bookkeepers  may  be  given 
charge  of  more  than  one  ledger.  As  has  been  said,  a  statement 
clerk  is  usually  assigned  to  each  ledger. 

The  usual  method  of  dividing  the  accounts  is  on  the  basis  of 
the  alphabet.  Thus  one  ledger  may  contain  all  accounts  from 
A  to  G;  another  from  H  to  M;  a  third  from  N  to  Z;  or,  if  the 
number  of  accounts  is  very  large,  the  divisions  may  contain  still 
fewer  letters.  In  addition  to  this  method  of  division,  some  banks 
carry  the  accounts  of  their  women  customers  on  separate  ledgers. 
Savings  accounts  are  always  kept  in  ledgers  distinct  from  the 
checking  accounts  because  different  regulations  apply  to  them. 

In  the  large  metropolitan  banks,  which  carry  the  accounts  of 
a  great  many  other  banks,  a  further  ledger  classification  may  be 
made.  For  example,  one  of  the  largest  banks  in  the  United  States 
divides  its  accounts  into  the  following  main  divisions:  individual 
accounts,  national  bank  accounts,  state  bank  accounts,  trust 
company  accounts,   and  savings  bank  accounts.     Within  the 


31 8  BANKING  PRACTICE  [XX 

various  ledgers,  of  course,  these  accounts  are  arranged  alpha- 
betically, the  individuals  by  surnames  and  the  banks  by  cities. 

Preparation  for  Posting. — The  work  of  preparing  the  material 
for  posting  is  carried  on  continuously,  and  consists  in  sorting  the 
items  according  to  ledgers  to  facilitate  posting.  Thus,  to  use  the 
divisions  suggested  above  for  the  different  accounts,  an  assistant 
in  the  receiving  teller's  cage  sorts  the  deposit  slips  to  be  posted 
into  three  main  divisions,  according  to  whether  the  accounts 
appear  in  the  A-G,  H-M,  or  N-Z  ledger.  A  list  is  made  of  the 
deposits  and  retained  as  a  record  from  which  the  receiving  teller 
makes  up  his  daily  proof.  The  list  is  afterward  used  to  verify 
the  total  of  deposit  slips  as  posted  by  each  bookkeeper.  When 
these  slips  are  turned  over  to  the  bookkeeper  or  an  assistant, 
another  record  is  made  of  them  and  they  are  totaled  to  see  that 
the  total  agrees  with  the  amount  recorded  by  the  receiving  teller. 
The  slips  are  then  sorted  alphabetically  as  the  accounts  appear 
on  the  ledger. 

The  Work  at  the  Check  Desk. — A  similar  procedure  is  fol- 
lowed in  dealing  with  checks.  All  checks  to  be  charged  to  in- 
dividual accounts  are  listed  and  turned  over  to  the  bookkeepers, 
each  bookkeeper  receiving  the  checks  drawn  on  accounts  appear- 
ing in  his  ledger.  The  lists  for  checks  sent  to  each  bookkeeper  are 
preserved  among  the  records  of  the  paying  teller,  and  before  they 
are  distributed  for  actual  posting  another  list  is  made  to  see  if  the 
total  corresponds  with  the  amount  claimed  by  the  paying  teller. 
The  deposits  and  checks  are  then  recorded  in  the  journals  or 
"scratchers"  and  the  totals  at  the  end  of  the  day  in  these  books 
must  correspond  with  the  totals  as  shown  on  the  original  lists. 

In  large  banks,  where  a  very  large  number  of  items  is  handled, 
the  work  is  further  subdivided  and  specialized  so  that  a  consider- 
able part  of  the  preparation  for  posting  is  done  before  the  items 
are  actually  turned  over  to  the  bookkeeper'^  or  their  assistants. 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  319 

As  previously  stated,  a  check  desk  is  sometimes  maintained  for 
the  purpose  of  receiving  all  checks  and  other  cash  items  from  the 
paying  teller,  the  clearing  house  department,  the  mail  teller,  the 
foreign  teller,  and  any  other  department  which  may  have  items 
to  be  charged  to  customers'  accounts.  The  work  of  the  check 
desk  department  consists  in  sorting  the  items  according  to  ledgers 
and  proving  the  accuracy  of  the  charges  to  the  bookkeeping 
department  made  by  the  various  departments.  Any  errors  that 
have  been  made  are  adjusted  by  the  check  desk. 

Where  a  check  desk  is  operated  the  work  of  posting  is  reduced 
by  using  an  adding  machine  to  list  the  items  to  be  charged  to  each 
depositor's  account.  The  checks  of  each  depositor  are  fastened 
together  and  this  list  is  attached  to  each  parcel.  In  posting,  then, 
the  bookkeeper  need  not  bother  with  the  individual  checks;  he 
posts  merely  the  total  figures. 

In  banks  which  do  not  operate  a  check  desk  this  work  usually 
devolves  upon  the  bookkeeper  or  his  assistant.  If  there  are  only 
a  few  checks  the  bookkeeper  posts  them  separately;  but  if  a 
considerable  number  are  to  be  charged  to  one  account,  a  list  is 
usually  made  and  only  the  total  is  posted,  while  a  memorandum 
is  made  on  the  ledger  of  the  number  of  checks  included  in  such 
total. 

The  Customers  or  Boston  Ledger. — The  form  of  ledger  used 
for  depositors'  accounts  varies  in  different  banks.  One  of  the 
forms  most  commonly  employed  is  known  as  the  Boston  ledger 
and  is  illustrated  in  Form  27.  This  ledger  is  made  up  in  bound 
form,  with  a  suihcient  number  of  pages  to  last  about  six  months. 
In  the  center  of  the  page,  or  sometimes  at  the  left  side  of  the  page, 
appears  a  column  in  which  the  names  of  the  accounts  are  entered 
in  alphabetical  order,  one  to  each  horizontal  line.  Blank  spaces 
are  left  at  various  places  on  the  page  so  that  new  names  may  be 
inserted  in  alphabetical  order  as  new  accounts  are  added  during 
the  period  in  which  the  ledger  is  in  use.    Each  page  is  ruled  ver- 


320 


BANKING  PRACTICE 


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XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  32 1 

tically  into  columns,  one  for  each  clay's  entries.  The  whole  page 
contains  six  groups  of  columns,  enough  for  one  week's  work. 
Within  each  of  these  six  groups  there  is  a  column  for  debits  to  the 
account  for  the  day,  and  a  column  for  the  credits  and  for  the 
pencil  balance.  The  advantage  of  this  type  of  ledger  is  that  a 
considerable  number  of  accounts  with  their  changes  in  daily 
balance  can  be  presented  on  the  same  page. 

Another  form  of  ledger,  used  by  many  banks,  is  one  in  which 
a  page  or  more  is  allotted  to  each  account.  The  name  of  the 
account  appears  at  the  top  and  the  page  is  then  ruled  off  with 
columns  for  date,  memoranda,  checks,  deposits  and  the  daily 
balance,  with  frequently  an  additional  column  for  recording  the 
average  daily  balance  of  the  account. 

The  advantages  of  this  type  of  ledger  is  that  more  space  is 
available  for  entries  to  each  account,  and  therefore  if  a  number 
of  deposits  or  a  large  number  of  checks  are  to  be  posted  to  the 
same  account  each  day,  the  postings  will  not  be  in  summarized 
form  as  in  the  Boston  ledger.  A  further  advantage  is  that  the 
history  of  a  given  account  can  be  traced  over  a  considerable 
period  on  the  same  page;  whereas  in  the  Boston  ledger,  as  has  been 
said,  each  sheet  gives  the  history  of  its  accounts  for  only  six  days. 

Loose-Leaf  Ledgers — Posting  Machines. — Bank  ledgers  may 
be  in  either  loose-leaf  or  bound  form.  One  of  the  disadvantages 
of  bound  ledgers  is  that,  inasmuch  as  new  accounts  are  being 
opened  constantly  and  old  accounts  are  being  closed,  the  active 
accounts  soon  get  out  of  strict  alphabetical  order  and  it  becomes 
more  difficult  and  requires  more  time  for  the  bookkeeper  to  locate 
an  account  and  to  make  his  postings  therein,  or  to  refer  to  an 
account.  Furthermore,  the  bound  ledgers  necessarily  contain 
a  large  number  of  blank  sheets  when  first  put  in  use,  and  toward 
the  latter  period  of  their  usefulness  they  contain  many  dead 
sheets  devoted  to  accounts  that  have  been  closed  or  to  past  re- 
cords of  active  accounts  which  are  referred  to  only  occasionally. 


322  BANKING  PRACTICE  [XX 

The  disadvantages  of  bound  books  are  so  apparent  that  banks 
are  more  and  more  making  use  of  loose-leaf  ledgers  in  which  pages 
can  be  taken  out  when  accounts  are  closed  and  new  sheets  can  be 
inserted  as  accounts  are  opened.  Since  the  pages  are  loose  and 
can  be  shifted  around,  they  can  always  be  kept  in  their  strict 
alphabetical  order. 

Bookkeeping  Errors. — The  routine  work  of  the  bookkeeper 
comprises  posting  the  debit  and  credit  items,  proving  and  check- 
ing the  postings,  and  noting  on  the  ledger  the  new  balance  result- 
ing in  each  account  from  the  day's  operations.  The  postings  are 
made  in  accordance  with  the  headings  for  each  column.  While 
the  directions  are  explicit  and  the  work  can  easily  be  performed, 
a  certain  danger  of  error  exists.  Postings  must  be  made  with 
great  rapidity  if  the  bookkeeper  is  to  have  his  work  completed  at 
a  reasonable  hour.  In  his  haste  he  may  make  any  one  of  the 
following  errors: 

1.  A  charge  item  may  be  posted  in  the  column  for  credits,  or 

vice  versa. 

2.  A  charge  or  credit  item  may  be  posted  to  the  wrong 

account;  thus,  a  check  on  John  Brown's  account  might 
be  charged  to  James  Brown's  account. 

3.  An  error  may  be  made  in  posting  the  amount  of  a  check  or 

deposit. 

4.  In  computing  the  new  balance  to  be  brought  down,  an 

error  in  addition  or  subtraction  may  be  made. 
Any  of  the  errors  listed  under  points  1,3,  and  4  above  would 
result  in  throwing  the  ledger  out  of  balance;  for  example,  if  a 
check  for  $101  were  posted  as  $100,  the  balance  of  the  account  in 
question  would  be  $1  less  and  the  total  balances  for  that  ledger 
would  be  $1  less  than  would  be  indicated  by  the  general  ledger 
figures  for  the  total  of  all  balances  on  such  ledger,  assuming  that 
the  amount  of  the  check  has  been  properly  listed  in  the  other  de- 
partments of  the  bank.    Or,  if  an  error  were  made  in  calculating 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  323 

the  particular  balance,  the  total  balance  on  the  customers  ledger 
would  not  agree  with  the  total  of  such  balances  as  recorded  in 
the  general  ledger.  It  is  part  of  the  duty  of  the  bookkeeper, 
therefore,  to  prove  the  accuracy  of  his  ledger  first  as  to  total 
balances. 

Proving  the  Ledger. — To  make  this  proof  the  bookkeeper 
takes  the  total  balance  of  all  accounts  in  his  ledger  for  the  pre- 
ceding day  when  it  presumably  agreed  with  the  general  ledger 
figures.  To  this  total  he  adds  the  sum  of  the  credits  for  the  given 
day  as  indicated  by  the  total  deposits  in  his  ledger.  The  figures 
for  deposits  are  verified  by  comparing  them  with  those  recorded 
by  the  receiving  teller  and  the  other  departments  which  have  sent 
items  for  posting.  From  the  gross  credit  thus  indicated  he  de- 
ducts the  sum  of  the  debits  for  the  day,  obtaining  the  total  from 
the  records  of  those  who  have  sent  debits  to  be  posted.  The 
amount  thus  obtained  should  agree  with  the  total  balance  shown 
by  the  accounts  in  his  ledger.  If  it  does  not,  it  is  evident  that  he 
has  made  an  error  in  one  of  the  ways  indicated. 

The  Statement  as  a  Check  on  the  Bookkeeping.— The  proof 
described  above,  however,  does  no  more  than  demonstrate  that 
the  total  balance  in  the  ledger  is  correct.  It  does  not  prove  that 
error  noted  under  point  2  has  not  been  committed.  So  long  as 
the  correct  amount  has  been  charged  or  credited  on  the  ledger, 
the  total  balance  would  be  the  same  regardless  of  whether  the 
posting  has  been  made  to  the  correct  account  or  not.  A  check  on 
this  portion  of  the  work  is  provided  by  the  work  of  the  statement 
clerk. 

This  clerk  keeps  a  ledger  which  is  practically  identical  with  the 
main  ledger,  in  that  the  same  amounts  are  posted  in  this  record  as 
the  bookkeeper  posts.  It  is  the  custom  in  many  banks,  after  all 
postings  have  been  made,  to  have  the  statement  clerk  call  off  the 
postings  to  the  bookkeeper  on  the  corresponding  ledger.    In  this 


324  BANKING  PRACTICE  [XX 

way,  if  the  bookkeeper  has  posted  an  item  to  the  wrong  account, 
the  error  will  usually  be  detected  because  it  is  not  likely  that  both 
employees  posting  independently  will  make  the  same  mistake. 
This  procedure  furnishes  a  check  upon  the  amounts  posted,  and 
the  balance  brought  down  by  the  statement  clerk  furnishes  a 
check  upon  the  balance  computed  by  the  bookkeeper. 

When  a  bank  uses  loose-leaf  ledgers  the  sheets  kept  by  the 
statement  clerk  may,  at  the  end  of  the  month  when  all  the  work 
has  been  verified,  be  removed  from  the  ledger  and  enclosed  in  an 
envelope  with  the  customer's  checks.  The  enclosure  thus  serves 
as  his  monthly  statement. 

General  Ledgers  a  Check  on  Individual  Ledgers. — Another 
standard  with  which  the  total  balances  in  the  customers  ledgers 
are  compared  is  the  Deposit  account  in  the  general  ledger.  The 
general  ledger  bookkeeper  commences  the  day  with  the  correct 
total  of  all  deposits,  which  total  is  made  up  from  the  balances  of 
the  customers  ledgers.  At  the  end  of  the  day  he  obtains  the  totals 
of  all  charge  and  credit  items  sent  to  each  bookkeeper.  He  does 
not  bother  with  individual  accounts  and  therefore  has  only  one 
calculation  to  make.  He  adds,  for  example,  to  the  previous  total 
of  balances  in  the  A-G  ledger  the  total  credits  for  the  day  and 
deducts  the  total  debits;  the  resulting  balance  is  the  amount 
which  the  ledger  must  show  if  the  work  has  been  done  correctly. 

Other  Duties  of  the  Bookkeepers. — Besides  posting  and  prov- 
ing the  work,  and  preparing  statements  of  customers'  accounts, 
the  bookkeepers  frequently  have  another  function  to  perform, 
namely,  to  determine  the  interest  to  be  paid  on  customers' 
balances.  As  a  special  inducement  to  obtain  deposits,  some 
banks  offer  a  low  rate  of  interest  on  the  average  daily  balance 
maintained  by  the  customer.  This  interest  is  sometimes  credited 
to  the  account  monthly  and  sometimes  only  at  semiannual  inter- 
vals.    While  the  jnethod  of  handling  these  calculations  varies 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  325 

with  different  banks,  as  does  also  the  amount  of  work  imposed 
upon  the  bookkeepers,  the  procedure  is  fundamentally  the  same. 

Computing  Interest  on  Daily  Deposit  Balances. — A  column 
is  provided,  either  in  an  interest  ledger  or  in  the  customers 
ledger,  in  which  is  entered  each  day  the  balance  for  that  day. 
If  the  account  changes  daily  there  will  obviously  be  a  different 
balance  in  the  average  balance  column  each  day.  If,  however, 
the  balance  remains  the  same  for  several  days,  the  entry  for  the 
average  balance  column  is  obtained  by  multiplying  the  balance 
by  the  number  of  days  it  remains  unchanged.  Or  the  same  result 
would  be  obtained  by  entering  each  day  the  same  balance.  For 
example,  if  the  balance  in  an  account  were  $10,000  and  that 
balance  remained  unchanged  for  five  days,  there  might  be  entered 
in  the  average  balance  column  $10,000  each  day  for  five  successive 
days,  or  a  lump  sum  of  $50,000  might  be  entered  once.  At  the 
end  of  the  interest  period  the  total  for  the  average  balance  column 
is  computed,  and  if  this  is  divided  by  the  number  of  days  in  the 
period  the  resulting  figure  will  be  the  average  daily  balance  for 
the  whole  period.  The  interest  at  the  given  rate  on  $1  for  this 
period  is  then  computed  and  it  only  requires  the  multiplication 
of  this  amount  by  the  average  balance  to  find  the  interest  due  to 
the  depositor. 

Interest  on  Full  Balance. — It  is  important  to  note  the  manner 
in  which  balances  to  be  used  for  interest  computations  are  ob- 
tained. It  has  been  pointed  out  in  another  connection  that  most 
of  the  deposits  consist  of  checks  or  other  items  which  cannot 
immediately  be  converted  into  cash  by  the  receiving  bank,  and 
that  some  of  these  items  require  as  long  a  period  as  eight  days  for 
their  collection.  It  would  be  obviously  improper  to  expect  a 
bank  to  pay  interest  on  a  balance  made  up  of  items  not  yet  col- 
lected and  for  which  in  reality  it  does  not  possess  the  funds.  To 
guard  against  this  overpayment,  the  procedure  is  as  follows:  to 


326  BANKING  PRACTICE  [XX 

the  credit  balance  in  the  depositor's  account  for  the  preceding 
day  are  added  any  deposits  which  are  available  for  use  by  the 
bank  on  that  day.  From  this  sum  are  subtracted  all  debits  made 
to  this  account  during  the  day;  the  result  is  the  balance  on  which 
interest  is  paid.  This  balance,  it  will  be  noted,  is  thus  less  than 
the  actual  balance  by  the  amount  of  the  items  credited  during 
the  current  day,  except  those  items  which  the  bank  can  use 
immediately  in  its  loaning  operations.  The  customer  has  the  use 
of  his  deposit  so  far  as  drawing  against  it  is  concerned,  but  he 
does  not  receive  interest  on  it  if  the  funds  are  not  immediately 
available  to  the  bank.  As  soon  as  they  become  available  they  are 
added  to  his  interest-bearing  balance. 

Bookkeepers  Responsible  for  Payments. — The  routine  duties 
of  the  bookkeeper  involve  certain  responsibilities.  He  is  expected 
to  be  on  his  guard  to  see  that  stop-payment  orders  are  not  ignored ; 
to  prevent  overdrafts;  to  verify  signatures;  and  to  see  that  items 
are  formally  correct  as  to  date,  indorsement,  and  amount.  When 
stop-payment  orders  are  filed  with  the  bank,  a  memorandum  is 
given  to  the  bookkeeper  in  charge  of  the  particular  account.  He 
makes  a  record  of  the  matter  on  his  ledger  and  is  expected  to 
keep  the  order  in  mind  while  making  his  postings,  so  that  if  the 
check  which  the  depositor  has  ordered  not  to  be  paid  comes  to 
hand,  he  will  detect  it  and  return  it  unpaid. 

Overdrafts.— While  the  bookkeeper  is  making  his  postings  of 
charges,  he  constantly  notes  the  amount  of  the  customer's  balance 
to  see  whether  it  is  sufficient  to  meet  the  debit  items  he  is  posting. 
If  the  items  to  be  posted  overdraw  the  account,  he  ascertains 
first  whether  a  deposit  of  an  amount  large  enough  to  cover  the 
items  has  been  made  and  not  yet  been  posted.  If  not,  he  refers 
the  matter  to  the  proper  official  of  the  bank  who  authorizes  him 
either  to  charge  the  item,  thus  overdrawing  the  account,  or  in- 
structs him  to  return  it  unpaid  to  the  source  from  which  it  was 


XX]  KEEPING  THE  INDIVIDUAL  LEDGERS  32? 

received.  If  the  item  is  paid,  the  bank  gets  in  touch  with  the 
customer  as  soon  as  possible  and  asks  him  to  deposit  a  sufficient 
amount  to  cover  the  overdraft. 

Signature  Control. — While  a  bookkeeper  is  not  usually 
charged  with  full  responsibility  for  the  signatures  of  depositors,  he 
is  expected  to  become  so  familiar  with  those  of  customers  on  his 
own  ledger  that  he  will  readily  detect  any  irregularity  in  the  signa- 
ture of  the  items  he  is  posting.  Questionable  items  are  brought  to 
the  attention  of  the  paying  teller,  or  in  a  large  bank  the  signature 
department,  so  that  they  may  be  examined  with  more  care. 

Circumstances  arise  from  time  to  time  which  make  it  impos- 
sible for  the  bank  to  pay  all  items  drawn  on  certain  accounts 
although  there  may  be  a  balance  sufficient  to  pay  them.  For 
example,  banks  must  exercise  great  care  in  paying  checks  drawn 
against  accounts  of  bankrupts,  deceased  persons,  concerns  in  the 
hands  of  receivers,  or  accounts  which  have  been  attached.  When 
an  account  is  legally  attached  in  any  way,  the  bookkeepers  must 
be  on  guard  against  the  payment  of  unauthorized  items.  To  call 
attention  to  the  matter  and  to  prevent  passing  such  items,  the 
bookkeepers  sometimes  place  a  memorandum  or  a  stamp  of  a 
distinctive  shape  or  color  opposite  the  name  of  each  account 
which  cannot  be  drawn  against  in  the  regular  way.  Finally,  the 
bookkeepers  are  expected,  while  posting  items,  to  detect  any 
obvious  errors  in  the  date  or  the  indorsement  of  checks  and  other 
papers,  and  to  discover  any  alterations  which  have  been  made  in 
the  body  of  the  item. 


CHAPTER    XXI 
THE  GENERAL  LEDGER 

Function  of  General  Ledger. — The  function  of  the  general 
ledger,  as  was  said  in  the  preceding  chapter,  is  to  record  changes 
in  the  financial  position  of  the  bank  in  the  aggregate.  In  the 
general  ledger  the  bookkeepers  bring  together  from  every  depart- 
ment information  regarding  the  bank's  changing  financial  rela- 
tions. In  that  ledger  only,  can  one  get  a  complete  view  of  the 
bank's  business — of  the  operations  of  the  bank  and  the  results 
yielded  by  them.  The  bookkeepers  on  the  individual  or  custo- 
mers ledgers  may  know  the  amount  of  the  deposits  carried  in  each 
ledger,  but  to  ascertain  the  total  deposits  of  the  bank  one  must  go 
to  the  general  ledger  in  which  the  deposits  recorded  in  each  ledger 
are  assembled.  Furthermore,  the  individual  ledger  bookkeeper 
knows  nothing  about  the  profit  earned  by  the  bank.  Even  the 
note  teller  or  discount  clerk  who  collects  the  interest  on  money 
loaned  to  customers  has  no  idea  of  the  bank's  total  profits  or  total 
expenses.  To  obtain  any  information  on  this  subject  recourse 
must  be  had  to  the  general  ledger. 

The  Bank  Balance  Sheet. — A  bank  is  at  the  same  time  both 
debtor  and  creditor;  some  people  owe  it  money — for  example, 
those  for  whom  the  bank  has  discounted  notes;  and  the  bank 
owes  other  people  money — for  example,  those  who  have  deposited 
money  with  it.  The  accounts  in  the  general  ledger  show  in 
any  given  case  to  what  extent  the  bank  is  a  debtor  and  a 
creditor.  The  claims  of  the  bank  against  others  are  assets — 
or,  as  more  generally  termed  in  banking  practice,  resources — 
while  the  claims  which  others  have  against  the  bank  are 
liabilities.    The  condition  of  the  bank  at  any  moment  can  be 

328 


XXI]  THE  GENERAL  LEDGER  329 

determined  by  comparing  the  total  assets  or  debits  with  the 
total  liabilities  or  credits. 

The  Nature  of  the  Liabilities. — The  above  statement  brings 
up  an  accounting  point  of  some  difficulty  for  the  novice  to  grasp, 
namely,  that  capital,  surplus,  and  undivided  profits  appear  on 
the  liability  side  of  the  balance  sheet.  This  arrangement  creates 
a  seeming  perplexity  that  can  be  readily  cleared  up  if  one  thinks 
of  a  given  institution  as  an  entity  distinct  from  those  who  own  it. 
While  in  a  sense  the  bank  and  its  stockholders  are  one  and  in- 
separable, to  get  a  correct  view  of  the  financial  relationship  exist- 
ing between  them,  one  must  realize  that  the  bank  is  indebted  to 
the  shareholders  for  all  the  funds  which  the  shareholders  have 
contributed  for  carrying  on  its  operations.  It  may  be  said, 
then,  that  a  bank's  statement  portrays  two  kinds  of  liabilities: 
the  bank's  liability  to  its  proprietors;  and  the  bank's  liability  to 
outsiders  or  general  creditors. 

The  matter  may  be  further  clarified  by  substituting  the  word 
" equities "  for  the  word  "liabilities."  Thus  the  capital  which  the 
proprietors  put  into  the  bank  and  which  is  invested  in  such  assets 
as  buildings,  furniture  and  equipment,  investments,  etc.,  repre- 
sents the  proprietors'  equity  in  the  property  owned  by  the  bank. 
Similarly,  customers'  deposits  which  appear  as  a  liability  repre- 
sent the  equity  which  the  depositors  claim  in  the  property  or 
assets  owned  by  the  bank. 

The  two  sides  of  a  financial  statement,  that  is,  the  assets  and 
the  liabilities,  should  be  equal.  If  the  liabihties  should  exceed  the 
assets,  the  bank  would  be  insolvent;  if  the  assets  exceed  the  liabili- 
ties to  outsiders,  whatever  excess  remains  is  a  liability  to  the 
proprietors.  If  the  bank  is  not  liable  to  any  specific  account, 
such  as  Capital  account  or  Surplus  account,  the  excess  of  assets 
over  liabilities  becomes  a  liability  to  Profit  and  Loss  account. 

Nomina.1  Accounts  and  Property  Accounts. — Since  the  general 
ledger  deals  only  with  summations  or  totals,  it  does  not  carry 


330  BANKING  PRACTICE  [XXI 

accounts  with  individuals.  It  contains  accounts  with  property 
and  nominal  accounts,  that  is,  accounts  opened  to  record  financial 
changes  in  the  bank's  position  in  a  particular  respect.  The  In- 
terest Earned  account,  the  Profit  and  Loss  account,  and  the  Ex- 
pense account  are  examples  of  nominal  accounts.  Real  estate 
owned,  bonds,  and  other  securities  are  further  examples  of  prop- 
erty for  the  recording  of  which  accounts  are  opened.  Anything 
that  is  added  to  the  assets  or  resources  of  the  bank  is  debited  to 
the  proper  account.  The  amount  may  be  considered  as  due  from 
the  account  to  the  bank.  Anything  added  to  liabilities  is  credited 
to  the  proper  account.  The  amount  may  be  considered  as  due  to 
the  account  from  the  bank.  Thus,  if  a  customer  borrows  $i,ooo 
from  the  bank,  the  account  Loan  and  Discount  on  the  general 
ledger  is  debited.  The  Loan  and  Discount  account  owes  the  bank 
$i,ooo.  If  $i,ooo  is  deposited  by  a  customer,  the  account  In- 
dividual Deposits  is  credited  with  the  sum  since  the  receipt  of  the 
amount  makes  the  bank  debtor  to  individual  deposits  for  $i,c»oo. 

Checking  the  Work  of  Departments. — Inasmuch  as  the  two 
sides  of  a  bank  statement  must  balance,  the  work  of  the  gen- 
eral ledger  bookkeeper  is  arranged  to  provide  each  day  a  check 
upon  the  accuracy  of  the  work  in  all  other  departments  by  the 
agreement  between  his  total  entries  and  the  totals  in  other 
departments.  If  an  error  has  been  made  in  any  one  of  the  other 
departments,  the  total  of  the  two  sides  of  the  balance  sheet  will 
not  correspond.  If  the  receiving  teller,  for  instance,  should  list  a 
deposit  of  $ioo  as  $iio,  the  assets  in  the  form  of  cash  would  be 
increased  by  only  $ioo  whereas  the  liabilities  represented  by 
deposits  would  be  increased  by  $iio.  Obviously  so  long  as  this 
error  exists  the  total  assets  and  the  total  liabilities  of  the  bank 
cannot  be  equal. 

Subsidiary  and  Descriptive  Ledgers. — The  employees  in 
charge  of  the  general  accounts  may  be  many  or  comparatively 


XXI]  THE  GENERAL  LEDGER  331 

few,  according  to  the  volume  of  work  to  be  done.  Where  the  work 
requires  more  than  one  man,  a  general  ledger  bookkeeper  is  in 
charge,  subordinate  bookkeepers  work  under  his  supervision,  and 
clerical  assistants  are  provided  as  needed.  In  banks  where  the 
volume  of  work  is  large,  two  general  ledgers  are  sometimes 
opened;  one  carries  the  accounts  which  always  show  a  credit 
balance,  that  is,  those  which  are  liabilities;  and  the  other  ledger 
carries  only  those  accounts  which  show  a  debit  balance,  and  are 
therefore  assets.  As  the  volume  of  business  increases,  other 
divisions  are  made.  For  the  sake  of  convenience  in  operation, 
subsidiary  and  descriptive  ledgers  are  opened,  in  which  may  be 
recorded  the  details  of  the  transactions  brought  together  in  the 
general  books.  The  general  ledger  merely  takes  the  totals  from 
the  subsidiary  and  descriptive  ledgers. 

The  subsidiary  ledgers  provide  an  intermediate  method  by 
which  a  large  number  of  separate  totals  applying  to  the  same 
general  account  are  brought  together  and  consolidated  so  that 
they  may  appear  as  one  set  of  figures  in  the  general  ledger. 

The  Use  of  Subsidiary  General  Ledgers. — The  function  of  the 
subsidiary  general  ledger  may  be  illustrated  by  reference  to  the 
account  Individual  Deposits.  Half  a  dozen  or  more  separate 
ledgers  may  be  required  to  care  for  the  accounts  of  individuals. 
The  general  ledger  takes  account  only  of  the  total  of  all  balances 
on  these  ledgers.  Where  the  volume  of  business  is  large  it  would 
require  too  much  time  and  space  for  the  general  ledger  book- 
keeper to  make  separate  entries  for  the  totals  of  each  of  these 
ledgers.  It  is  necessary,  however,  if  a  control  account  is  to  be 
maintained,  to  preserve  these  figures.  They  are  assembled, 
therefore,  in  the  subsidiary  general  ledger.  The  total  for  all  the 
individual  ledgers  is  obtained  from  the  subsidiary  ledger  and  this 
is  entered  in  the  general  ledger. 

The  figures  which  are  posted  in  the  subsidiary  ledger  each  day 
are  the  total  deposits  for  each  individual  ledger  and  the  total 


332  BANKING  PRACTICE  I XXI 

checks  drawn  upon  accounts  in  each  ledger.  The  entries  to  the 
account  Individual  Deposits  in  the  general  ledger  for  a  given  day 
consist  of  a  single  debit  entry,  a  single  credit  entry,  and  a  balance, 
without  description  of  any  kind.  The  economy  in  this  procedure 
may  be  illustrated  by  assuming  that  the  figures  contained  in  this 
balance  represent  the  aggregate  of  six  control  accounts,  that  is, 
an  account  with  each  of  the  individual  ledgers  brought  together 
in  the  subsidiary  ledger.  These  control  accounts  in  turn  repre- 
sent six  different  ledgers,  each  of  which  may  contain  hundreds  of 
accounts. 

The  Use  of  Descriptive  Ledgers. — Similarly,  the  descriptive 
ledgers  serve  the  purpose  of  recording  with  somewhat  less  detail, 
information  obtained  from  other  sources  in  regard  to  special 
accounts.  This  information  is  given  to  the  general  ledger  book- 
keeper in  final  totals  for  the  day.  The  nature  of  the  accounts 
carried  on  these  ledgers  may  be  understood  by  noting  the  titles 
of  a  few  which  indicate  very  plainly  their  purpose:  Advanced  to 
Customers  on  Travelers'  Letters  of  Credit;  Accounts  Receivable; 
Lawful  Reserve  with  Federal  Reserve  Bank;  Coupons;  Interest; 
Discount;  Exchange;  Rent;  Reserve  for  All  Interest;  Time  Cer- 
tificates of  Deposit;  and  Cashier's  Checks.  All  these  accounts 
are  handled  by  the  general  ledger  department,  but  because  a 
considerable  number  of  entries  occur  during  a  day,  they  are  first 
posted  in  the  descriptive  ledger.  The  day's  total  for  each  account 
is  then  posted  to  the  general  ledger. 

The  Recapitulation  Sheet. — The  routine  work  in  the  general 
ledger  department  consists  in  first  accumulating  the  total  debits 
and  credits  from  all  departments  of  the  bank,  and  then  posting 
the  totals  to  the  proper  accounts  on  the  general  ledger.  Items  for 
posting  to  these  accounts,  which  are  sent  to  the  department  at 
various  times  during  the  day,  are  totaled  and  recorded  on  a  re- 
capitulation sheet.    This  sheet  corresponds  in  appearance  to  the 


XXI]  THE  GENERAL  LEDGER  333 

statement  sheets  made  up  by  the  general  ledger  bookkeeper,  and 
the  items  are  posted  to  accounts  under  the  names  which  appear 
on  the  general  ledger.  At  the  end  of  the  day  the  several  postings 
in  each  account  are  totaled  and  the  items  on  the  recapitulation 
sheet  are  copied  into  the  general  ledger. 

The  Daily  Bank  Statement. — Each  day  the  general  ledger 
department  prepares  a  statement  which  is  entered  in  a  statement 
book.  This  record  serves  three  useful  purposes:  it  constitutes  a 
trial  balance  showing  that  the  ledger  is  in  balance;  it  presents  the 
financial  position  of  the  bank  for  the  given  day;  and  it  makes  a 
possible  comparison  of  the  day's  figures  with  those  of  the  preced- 
ing day.  Such  a  statement  presents  the  more  important  balances 
appearing  in  the  general  ledger  as  separate  entries,  while  the  less 
important  balances  are  grouped  together  for  convenience.  Such 
an  analytic  arrangement  greatly  aids  the  officers  of  the  bank  in 
watching  the  fmancial  condition  of  the  institution  and  enables 
them  to  determine  the  business  policy  for  the  immediate  future. 
The  statement  book  also  serves  as  a  valuable  source  of  reference 
for  information  as  to  the  status  of  the  various  accounts  on 
different  dates. 

Computing  the  Reserve.— Another  duty  of  the  general  ledger 
bookkeeper  is  to  compute  the  reserve  of  the  bank,  A  national 
bank  in  a  central  reserve  city — New  York,  Chicago,  or  St.  Louis — 
is  required  to  maintain  at  all  times  a  reserve  equal  to  at  least  13 
per  cent  of  its  demand  deposits,  and  3  per  cent  of  its  time  deposits. 
The  amount  of  the  reserve  required  for  national  banks  in  reserve 
cities  is  10  per  cent  of  demand  deposits  and  3  per  cent  of  time 
deposits;  and  in  country  banks,  that  is,  national  banks  in  all  other 
places  than  the  reserve  and  central  reserve  cities,  the  figures  are 
respectively  7  and  3  per  cent.  This  reserve  must  consist  of  a 
deposit  balance  maintained  with  the  federal  reserve  bank  of  the 
district.     If  a  bank  permits  its  lawful  reserve  to  fall  below  the 


334  BANKING  PRACTICE  I XXI 

legal  figure,  it  is  subject  to  a  fine  imposed  by  the  Federal  Reserve 
Board,  it  is  restrained  from  making  loans,  and  its  banking  opera- 
tions in  other  respects  are  restricted.  To  ascertain  the  daily- 
standing  of  the  bank's  reserve  account  is,  therefore,  a  most  im- 
portant duty.  This  daily  standing  is  ascertained  by  comparing 
the  bank's  balance  in  the  federal  reserve  bank  with  the  bank's 
deposit  liability.  The  deposit  liability  is  computed  by  deducting 
from  the  total  deposits  held  by  the  bank  all  kinds  of  clearing  house 
exchanges — that  is,  checks  on  other  banks  in  the  same  city — time 
deposits,  government  deposits,  and  the  amount  due  from  domestic 
banks. 

Methods  of  Restoring  the  Reserve. — The  officers  of  the  bank 
watch  very  carefully  the  state  of  the  reserve  account  and  ascertain 
from  the  general  ledger  bookkeeper  the  additions  to  the  account 
which  may  be  expected  from  items  in  process  of  collection,  the 
decreases  which  are  expected  on  account  of  maturing  bills  pay- 
able at  the  federal  reserve  bank,  and  the  charges  which  will  result 
from  the  day's  clearings.  If  it  appears  that  the  bank's  reserve 
will  be  depleted,  the  tendency  in  that  direction  is  overcome,  in 
the  case  of  long-term  needs — up  to  90  days — by  rediscounting 
at  the  federal  reserve  bank;  in  the  case  of  temporary  needs,  by 
borrowing  at  the  federal  reserve  bank  on  a  one-day  note  secured 
by  United  States  bonds. 

Recording  Earnings,  Expenses,  Profits,  and  Losses. — The 

general  bookkeepers  may  also  be  required  to  prepare  a  statement 
showing  the  earnings,  expenses,  profits,  and  losses  of  the  bank. 
The  earnings  consist  of  discount  and  interest  obtained  from  loans 
and  discounts  made,  interest  on  bonds,  and  on  the  bank's  balances 
with  other  banks,  commissions  of  various  kinds,  and  exchange 
(Form  28).  The  chief  deductions  from  earnings  are  interest 
paid  to  depositors,  rediscounts  at  the  federal  reserve  bank,  and 
various  expenses.     In  many  banks,  statements  are  drawn  up 


The  National  City  Bank  of  New  York 
Interest  Earnings  Statement  for  Month  of 192. 


Interest 

Av. 
Balance 

Av. 
Rate 

January  i  to  Date 

Interes". 

Av. 

Balance 

Av. 
Rate 

Interest  Receivable: 

Loans     

Foreign    Department* 

Cash    Reserve 

Total  Interest  and  Avail- 
able   Funds 

Interest  Payable: 

Individuals: 

Foreign    Sundries 

Certificates   of   Deposit 

U.  S.  Government  Deposits 

Float  and  Free  Balances.... 

Total  Interest  and  Funds 

Net    Interest   Earnings 

Commissions; 

Transfers  and  Registrations 
Trust    Department 

Rent     

Total    Interest    Earnings 
and    Commissions 

Excess  Interest  Earnings  and 

*  The  investments  and  the  deposits  of  the  foreign  division  are  shown  merely  for 
statistical  purposes  in  order  to  arrive  at  the  total  available  funds  and  deposits  of  the 
bank.  The  interest  figure  given  for  foreign  investments  is  an  arbitrary  one,  exactly 
equal  to  interest  payable  on  foreign  deposits,  the  idea  being  simply  to  eliminate 
foreign  interest  from  this  statement. 

Form  28.     Monthly  Interest  Earnings  Statement 
335 


336  BANKING  PRACTICE  [XXI 

monthly  showing  the  interest  earnings  on  the  various  loans  and 
investments  for  the  period  under  consideration. 

In  this  connection  it  may  be  noted  that  some  banks  compile 
elaborate  statistical  records  as  to  earnings  from  their  various 
investments.  Such  records  help  the  management  to  determine 
the  most  profitable  methods  of  utilizing  the  bank's  earning  assets. 

Accounting   for  Interest,  Taxes,  and  General  Expenses. — 

Other  duties  of  the  general  bookkeepers  may  be  to  keep  an 
account  of  the  expenses  of  the  bank,  and  to  see  that  proper 
vouchers  are  prepared  and  presented  in  connection  with  all  ex- 
penditures. The  chief  expenses  of  the  bank  are  of  three  kinds: 
interest  paid,  taxes,  and  general  expenses.  The  first  kind  of 
expense  may  be  subdivided  into  interest  paid  on  deposits,  and 
interest  paid  on  borrowed  money  and  borrowed  bonds.  Money 
may  be  borrowed  at  the  federal  reserve  bank  or  from  some  other 
bank.  Taxes  may  be  subdivided  into  income  tax,  state  tax  on 
capital  stock,  federal  tax  on  circulation,  and  state  tax  on  real 
estate.  While  the  tax  payments  are  made  in  one  or  more  lump 
sums,  the  tax  burden  should  properly  be  distributed  throughout 
the  year.  To  this  end  banks  usually  estimate  their  taxes  for  the 
year  and  divide  the  total  into  twelve  equal  parts,  charging  one  of 
these  parts  monthly  to  the  expense  account  Taxes  Paid. 

The  general  expenses  may  be  subdivided  into  salaries  and 
other  expenses.  The  amount  expended  for  salaries  is  charged 
each  month  as  it  is  paid  out.  Other  expenditures  are  estimated 
on  a  budget  basis.  Past  experience  and  possible  future  needs  are 
considered  and  the  total  cost  for  the  year  thus  estimated  is 
divided  and  charged  in  equal  monthly  portions.  In  a  bank  which 
does  a  large  business,  all  payments  on  account  of  expenses  con- 
tracted are  made  only  on  presentation  of  properly  authenticated 
vouchers.  One  of  the  duties  of  the  general  bookkeepers  is  to 
record  these  vouchers  in  a  voucher  register  or  similar  book,  only 
the  totals  of  which  are  posted  to  the  general  books. 


XXI]  THE  GENERAL  LEDGER  337 

Preparing  Reports  and  Publishing  Statements. — There  re- 
mains to  consider  one  other  main  duty  which  devolves  upon  the 
general  bookkeepers,  namely,  the  preparation  of  statements  of 
condition  where  these  are  required.  Thus  the  Clearing  House 
Association  in  New  York  City  compels  all  member  banks  to  sub- 
mit a  statement  of  condition  at  the  close  of  business  each  Friday, 
showing  the  daily  average  condition  of  the  bank  for  the  past  week. 
Another  compulsory  statement  for  national  banks  is  a  report  to 
the  Comptroller  of  the  Currency.  The  Comptroller  is  required 
by  law  to  call  upon  national  banks  for  statements  of  condition  at 
least  five  times  a  year,  and  he  may  ask  for  them  more  frequently 
if  he  desires.  These  statements  include  schedules  which  go  into 
great  detail  in  regard  to  the  operations  of  the  bank  and  the 
amount  of  its  business. 

A  third  statement  prepared  by  every  bank  is  a  statement  of 
condition  for  pubHcation  as  an  advertisement  (Form  29).  The 
general  bookkeepers  are  instructed  to  prepare  these  statements 
whenever  it  seems  desirable. 

Accounts  on  the  General  Ledger. — A  discussion  of  the  main 
accounts  with  which  the  general  ledger  bookkeeper  deals  is  neces- 
sary for  a  proper  understanding  of  his  work. 

The  most  important  item  appearing  among  the  resources  or 
assets  of  a  bank's  statement  is  that  of  "Loans  and  Discounts." 
This  item  is  usually  made  up  from  a  number  of  separate  accounts, 
such  as  Demand  Loans,  Time  Loans,  Bills  Discounted,  and 
Acceptances  Discounted.  Another  large  account  is  that  of 
"Bonds  and  Other  Securities."  This  item  likewise  includes  a 
number  of  separate  accounts,  such  as  State  Bonds  to  Secure  Cir- 
culation, United  States  Bonds  Deposited,  and  other  suitably 
named  accounts  to  classify  other  kinds  of  bonds.  The  account 
State  Bonds  to  Secure  Circulation  shows  the  government  bonds 
which  have  been  deposited  by  the  bank  as  a  basis  upon  which  to 
issue  national  bank  notes.     The  account  United  States  Bonds 


333  BANKING  PRACTICE  [XXI 

The  National  City  Bank  of  New  York  and  Branches 
Condensed  Statement  of  Condition  as  of  May  4,  1920 

Assets 

Cash  on  Hand,  in  Federal  Reserve 
Bank  and  due  from  Banks  and 
Bankers  and  United  States  Treas- 
urer    $254,008,322.18 

Acceptances  of  other  banks 26,934,110.29 

United  States  Treasury  Certificates.      22,813,500.00   $  303,755,932.47 


Loans  and  Discounts $586,088,579.98 

United  States  Bonds  and  Other  Bonds 

and  Securities 40,079,590.07 

Stock  in  Federal  Reserve  Bank 1,800,000.00       627,968,170.05 


Banking  House 5,000,000.00 

Due  from  Branches 20,470,001.51 

Customers'  Liability  Account  of  Acceptances 66,068,490.77 

Other  Assets  4,323,191.73 


$1,027,585,786.53 


Liabilities 

Capital,  Surplus,  and  Undivided  Profits $  84,855,526.65 

Deposits 720,598,397.99 

Reserved  for  Taxes  and  Interest  Accrued 4,846,508.31 

Unearned  Discount  2,902,600.02 

Circulation 1,399,930.00 

Due  to  Federal  Reserve  Bank 106,460,066.76 

Other   Bank   Acceptances   and   Foreign   Bills    Sold 

with  our   Indorsement 31,753,200.11 

Acceptances,  Cash  Letters  of  Credit,  and  Travelers' 

Checks 68,143,630.51 

Bonds  Borrowed   3,333,200.00 

Other  Liabilities 3,292,726.18 


$1,027,585,786.53 


Form  29.     Published  Statement  of  Condition. 


XXI]  THE  GENERAL  LEDGER  339 

Deposited  shows  the  amount  of  the  bonds  deposited  to  secure 
government  deposits.  Banks  which  are  members  of  the  federal 
reserve  system,  moreover,  carry  an  account  showing  the  amount 
of  the  federal  reserve  bank  stock  owned. 

Miscellaneous  Asset  Accounts. — The  two  groups  of  assets 
mentioned  above  represent  the  chief  liquid  assets  of  the  bank. 
Other  accounts  which  appear  among  a  bank's  resources  represent 
such  assets  as:  Buildings;  Furniture  and  Equipment;  Accounts 
Receivable;  Prepaid  Expenses;  Interest  Earned  but  Not  Col- 
lected; Cash  in  Bank;  Reserve  with  Federal  Reserve  Bank; 
Redemption  Fund  with  the  United  States  Treasurer;  and  so  on. 
Another  group  of  accounts  among  the  resources  are:  Balances 
Due  from  Other  Banks;  Due  from  the  Federal  Reserve  Bank  on 
Account  of  Collections;  Exchange  Due  from  the  Clearing  House; 
and  checks  on  other  banks  in  the  city  not  members  of  the  clearing 
house. 

Liability  or  Equity  Accounts. — Among  the  liabilities  the  ac- 
counts ordinarily  found  cover  such  items  as:  Capital  Stock; 
Surplus  Fund;  Undivided  Profits;  Reserved  for  Taxes;  Reserved 
for  Interest;  Reserved  for  Expenditures;  Reserved  for  Deprecia- 
tion; Demand  Deposits — including  United  States  Deposits;  Due 
to  Banks  and  Bankers;  Individual  Deposits;  Certified  Checks; 
Cashier's  Checks;  Unpaid  Dividends;  Demand  Certificates  of 
Deposit;  Letters  of  Credit;  Travelers'  Checks;  and  Time  Deposits. 

Other  liability  accounts  which  appear  less  frequently  are  as 
follows:  Discount  Collected  but  Not  Earned;  United  States 
Bonds  Borrowed;  Other  Bonds  Borrowed;  Bills  Payable  with  the 
Federal  Reserve  Bank;  Circulation  Outstanding;  Accrued  Ex- 
penditures; and  Acceptances  under  Commercial  Credits. 


CHAPTER    XXII 
AUDITS  AND  EXAMINATIONS 

Nature  of  Bank  Audits. — The  only  part  of  the  accounting 
work  of  the  bank  that  remains  to  be  considered  is  the  subject  of 
audits  and  examinations.  As  already  pointed  out,  the  process  of 
checking  and  auditing  the  work  of  various  departments  is  going 
on  constantly.  The  receiving  teller,  the  paying  teller,  the  book- 
keepers, and  practically  all  other  employees  of  the  bank  check  up 
their  work  each  day  to  assure  themselves  that  it  has  been  done 
correctly.  In  addition  to  these  self-checks,  every  bank  exercises 
further  supervision  over  the  work  of  its  employees.  The  aim  is, 
not  primarily  to  make  sure  that  the  accounts  balance,  but  that 
the  work  has  been  done  honestly  and  efficiently.  These  additional 
examinations  are  termed  audits  to  distinguish  them  from  the 
proofs  or  checks  which  employees  exercise  over  their  own  work. 

Internal  and  External  Audits. — The  audits  of  a  bank's  books 
are  not  made  daily  as  are  the  proofs,  and  they  are  carried  out 
without  warning.  Audits  and  examinations  are  of  two  kinds: 
internal  audits,  and  examinations  by  outside  authorities.  In- 
ternal audits,  as  the  term  signifies,  are  examinations  made  by  the 
bank  itself;  examinations  by  outside  authorities  are  audits  cover- 
ing the  entire  work  of  the  bank  made  by  persons  not  connected 
with  it  in  an  official  capacity. 

Protection  of  Stockholders  and  Depositors. — The  purpose  of 
these  examinations  or  audits  is  to  protect  the  interests  alike  of  the 
stockholders  and  of  depositors  of  the  bank  from  loss  through 
mismanagement.  Formerly  the  bank's  note-holders  were  the 
persons  chiefly  in  need  of  protection,  but  since  the  establishment 

340 


XXII]  AUDITS  AND  EXAMINATIONS  341 

of  the  national  banking  system  and  the  restriction  of  note  issues 
to  national  banks,  which  are  compelled  to  secure  their  note  issues 
by  deposit  of  United  States  bonds,  there  is  no  longer  any  occasion 
to  safeguard  the  interests  of  a  bank's  note-holders.  The  note 
issues  themselves  are  protected.  Hence  it  is  often  assumed  that 
the  only  interests  likely  to  suffer  from  the  maladministration  of  a 
bank  are  those  of  its  depositors,  but  this  assumption  is  incorrect. 
The  holders  of  a  bank's  capital  stock  are  equally  interested  in  the 
prcsperity  of  the  undertaking. 

I'he  stockholders  of  a  bank  may  be  very  numerous  and  as  a 
rule  are  scattered  over  a  wide  area.  For  the  most  part  they  have 
no  intimate  knowledge  of  the  manner  in  which  the  business  is 
being  conducted;  they  are  absolutely  dependent,  for  the  safety 
of  the  money  they  have  invested  and  for  adequate  dividends  from 
such  investment,  upon  the  integrity  and  ability  of  the  officers  and 
directors.  Since  the  stockholders  of  all  national  banks  and  of 
many  state  banks  are  liable,  in  the  event  of  the  failure  of  the 
bank,  for  an  additional  amount  equal  to  the  par  value  of  their 
stock,  they  need  to  be  assured  of  the  honesty  and  efficiency  of  the 
bank  management.  This  assurance  is  obtained  by  means  of 
an  audit  or  examination  having  the  three  following  purposes  in 
view : 

1.  To  show  that  the  assets  as  stated  on  the  balance  sheet  are 

in  possession  of  the  bank. 

2.  To  determine  whether  the  policy  and  management  of  the 

bank  are  sound  and  conservative. 

3.  To  observe  whether  the  technique  of  handling  the  busi- 

ness is  up  to  date,  and  efficient. 

The  Bank's  Force  of  Auditors. — The  clerical  work  required  for 
the  auditing  of  a  bank's  books  varies  naturally  with  the  volume 
of  business  and  the  number  of  employees.  In  banks  employing 
comparatively  few  persons,  practically  all  employees  are  in- 
timately acquainted  with  the  details  of  operation;  and  the  close 


342  BANKING  PRACTICE  [XXII 

relation  of  the  duties  of  one  employee  to  those  of  another  renders 
unnecessary  the  expenditure  of  a  great  deal  of  time  in  checking 
up  the  clerical  work.  In  a  large  institution  the  duties  are  so 
subdivided  and  the  employees  are  so  numerous  that  a  constant 
scrutiny  of  their  work  is  imperative.  In  the  smaller  bank  such 
auditing  as  is  done  internally  is  performed  by  the  officers  or  by 
all  the  employees  working  together  to  check  up  each  phase  of  the 
daily  routine.  In  a  large  institution  the  demands  upon  the  audit- 
ing force  are  so  heavy  that  specially  trained  men  devote  all  their 
time  to  the  task  of  auditing  and  much  of  the  work  is  divided  for 
the  sake  of  efficiency. 

Subdivisions  in  the  Work  of  Auditing. — In  one  of  the  largest 
New  York  banks  an  auditing  division  is  in  charge  of  the  books, 
and  the  auditor  at  the  head  of  the  division  is  responsible  to  the 
comptroller.  The  division  is  organized  into  the  main  departments 
of  accounting,  reconcilements,  general  audits,  and  branch  bank 
accounting.  The  accounting  department  handles  that  part  of  the 
work  which  comprises  the  making  of  daily  audits  of  current  tran- 
sactions. The  reconcilement  department  attends  to  the  recon- 
ciling of  the  bank's  records  with  those  of  its  depositors,  with  the 
federal  reserve  bank,  and  the  foreign  banks  with  which  the  bank 
maintains  accounts.  The  general  auditors  are  examiners  who 
make  periodical  audits  of  the  various  departments  of  the  institu- 
tion. The  branch  bank  accounting  department  is  in  charge  of 
the  accounting  records  kept  with  the  branches  of  the  bank, 
and  bank  inspectors  make  examinations  of  the  branches  at 
intervals. 

To  maintain  the  efficiency  of  the  auditing  staff,  its  work  should 
not  be  too  closely  connected  with  that  of  the  other  departments 
of  the  bank.  To  this  end  the  auditors  are  transferred  from  one 
type  of  work  to  another  at  frequent  intervals.  This  shifting 
serves  the  further  purpose  of  checking  the  work  of  the  members 
of  the  audit  department. 


XXII]  AUDITS  AND  EXAMINATIONS  343 

Continuous  and  Spot  Audits. — The  nature  of  an  internal  audit 
can  be  best  understood  by  considering  the  various  kinds  of  audits 
made  by  the  officers  or  auditors  of  the  bank.  A  type  of  audit 
common  to  most  large  banks  is  the  daily  or  continuous  audit, 
which  differs  little  from  the  ordinary  checks  or  balances  in 
constant  operation.  The  purpose  of  such  an  examination  is 
to  review  or  check  actual  transactions  immediately  after  they 
have  passed  through  the  operating  departments.  Such  routine 
matters  as  the  issuing  of  travelers'  checks,  certificates  of  de- 
posit, and  cashier's  checks,  the  receiving  of  negotiable  funds 
not  accounted  for  on  cash  proofs,  making  adjustments  with 
customers,  and  computing  earnings,  require  the  closest  super- 
vision at  all  times  regardless  of  the  efficiency  of  the  depart- 
ments handling  them.  All  these  transactions  are  checked  or 
audited  by  the  accounting  department  as  soon  as  they  are 
completed. 

Occasionally  a  test  audit  made  by  the  general  auditors  may 
indicate  lack  of  efficiency  in  the  personnel  of  a  department.  If, 
for  instance,  errors  are  frequently  found  and  the  work  seems  to 
have  been  inefficiently  done,  the  auditors  may  suggest  the 
reorganization  of  the  department  or  changes  in  its  procedure. 
While  a  continuous  audit  is  useful  in  these  respects,  it  has  two 
disadvantages:  (i)  the  duplication  of  clerical  work  is  expensive; 
and  (2)  the  realization  by  employees  that  the  records  are  subject 
to  constant  check  tends  to  lessen  their  alertness  and  the  feeling 
of  responsibility  for  the  work  passing  through  their  hands.  For 
these  reasons  another  form  of  audit,  known  as  the  spot  audit,  is 
constantly  being  made. 

The  spot  audit  is  virtually  an  examination  made  at  irregular 
intervals,  for  the  purpose  of  checking  mainly  the  handling  of 
actual  transactions.  In  making  a  spot  audit  the  accountants 
appear  in  a  department  at  intervals  and  check  over  the  work  of 
the  employees  for  a  sufficient  length  of  time  to  ascertain  how  it  is 
actually  being  done. 


344  BANKING  PRACTICE  [XXII 

The  Number  Control  System. — One  phase  of  a  bank's  opera- 
tions which  requires  careful  scrutiny  and  is  subject  to  continuous 
check  or  audit  is  the  issuance  of  certain  types  of  credit  instru- 
ments. To  prevent  their  unauthorized  issue  some  banks  adopt 
what  is  known  as  a  ''number  control  system."  Under  this  ar- 
rangement all  blank  checks,  drafts,  and  letters  of  credit  are 
numbered  serially  and  are  kept  in  the  possession  of  the  auditing 
department.  The  operating  departments  are  permitted  to  with- 
draw only  a  supply  sufficient  for  their  daily  requirements.  When 
two  or  more  departments  issue  the  same  kind  of  instrument,  such 
as  a  cashier's  check,  a  distinctive  symbol  indicating  the  depart- 
ment of  issue  is  affixed  to  the  serial  number.  A  record  of  the  blank 
forms  in  the  hands  of  the  various  departments  is  kept  by  the 
auditor.  As  the  instruments  are  issued,  stubs  bearing  the  cor- 
responding numbers  and  the  authority  of  an  officer  for  their  issue 
are  turned  into  the  auditing  department.  By  this  method  each 
department  is  held  to  strict  accountability  for  all  blank  credit 
instruments  issued  to  it. 

General  Purposes  of  Continuous  Audit. — The  auditing  of  such 
documents  as  cashier's  checks,  bank  drafts,  certificates  of  deposit, 
foreign  drafts,  travelers'  checks  and  letters  of  credit,  commercial 
credits,  and  telegraphic  and  cable  transfers  is  performed  for  the 
purpose  of  ascertaining  that  the  instruments  have  been  issued 
under  proper  authority;  that  the  entries  have  been  made  cor- 
rectly; that  the  accounts  in  the  general  books  are  properly  kept; 
that  a  stub  or  duplicate  record  is  in  the  possession  of  the  bank; 
that  the  proper  persons  have  received  payment;  that  the  accounts 
have  not  been  altered  before  payment  of  the  items;  that  every 
stipulation  made  by  the  customer  in  connection  with  the  issue  of 
such  instruments  has  been  met;  and  that  the  necessary  drafts  and 
shipping  documents  conform  to  the  terms  of  the  credit. 

Continuous  audits  are  also  made  of  the  expenditures  of  the 
bank  to  see  that  the  outlays  have  been  properly  authorized  and 


XXII]  AUDITvS  AND  EXAMINATIONS  345 

that  the  bills  submitted  are  in  proper  form  and  amount.  Ship- 
ments of  money,  securities,  and  other  valuables  are  subjected  to 
a  continuous  check  to  determine  that  they  conform  to  instruc- 
tions, that  they  are  addressed  to  the  proper  consignee,  and  that 
the  bank  receives  proper  acknowledgment  from  the  consignee 
of  the  receipt  of  the  shipment.  Payments  and  cancellation 
of  coupons  are  verified  constantly.  The  various  fiduciary  and 
representative  activities  of  the  bank,  as  for  example,  the  issue  of 
certificates  of  stock  and  the  registration  of  bonds,  are  subjected  to 
inspection  to  make  sure  that  no  errors  have  been  made.  Likewise, 
the  earnings  and  computations  of  interest  for  the  loan  and  dis- 
count department  are  constantly  being  audited. 

The  Reconcilement  of  Accounts. — Another  important  phase 
of  the  auditing  work  is  the  reconcilement  of  depositors'  accounts, 
whether  they  are  accounts  of  individuals  or  of  banks.  The  state- 
ment of  account  sent  out  by  the  bank  is  the  medium  through 
which  reconcilement  is  effected.  These  statements  list  in  detail 
every  debit  and  every  credit  that  has  appeared  on  the  account 
during  a  given  period.  With  this  statement  the  customer  receives 
the  canceled  vouchers  and  a  reconcilement  blank.  He  is  re- 
quested to  make  a  careful  comparison  of  the  bank's  record  with 
his  own  record.  If  the  two  records  agree  he  enters  the  balance 
on  the  reconcilement  blank  and  signs  and  returns  it  to  the  bank. 
If  agreement  is  not  obtained,  the  discrepancy  is  indicated  and  the 
auditors  then  check  up  the  work  to  locate  the  error. 

The  General  Audit. — In  banks  large  enough  to  maintain  a 
separate  auditing  department  a  general  audit,  similar  to  examina- 
tions made  by  outside  agencies,  is  taken  from  time  to  time.  In 
the  continuous  and  spot  audits  the  procedure  is  to  submit  some 
specific  banking  process  to  detailed  examination  while  the  work 
is  in  progress.  In  the  general  audit  the  procedure  is  to  make  a 
complete  examination  of  the  records,   covering  generally  the 


346  BANKING  PRACTICE  [XXII 

operations  of  a  specific  department  over  a  considerable  period  of 
time.  The  movements  of  the  auditors  from  department  to  de- 
partment are  guarded  with  the  greatest  secrecy.  They  give  the 
work  in  every  department  very  critical  inspection.  Each  depart- 
ment is  inspected  several  times  a  year,  and  special  audits  may  be 
made  more  frequently  when  it  seems  advisable. 

When  an  inventory  of  valuable  assets,  such  as  cash,  securities, 
or  notes,  is  involved,  the  auditors  verify  the  amounts  reported  by 
actual  count.  Upon  the  completion  of  such  an  audit  a  report  of 
the  condition  of  the  department  examined  is  prepared  for  the  use 
of  the  management  and  comptroller.  In  addition  to  testing  the 
accuracy  of  the  work  done,  the  auditors  make  suggestions  for 
improvements  in  accounting  and  other  routine  methods. 

One  other  form  of  internal  examination  is  that  by  the  direc- 
tors, which  is  required  by  the  Comptroller  of  the  Currency  to  be 
made  periodically. 

Governmental  Examinations. — While  many  banks  cannot 
afford  to  maintain  separate  auditing  departments,  and  their  ac- 
tivities therefore  are  not  subject  to  the  constant  internal  checks 
that  have  been  described,  all  incorporated  banks  are  subject  to 
examinations  by  outside  authorities.  The  most  important  of 
these  examinations  are  made  by  professional  bank  examiners. 
If  a  bank  is  chartered  under  state  laws,  it  is  subject  to  inspection 
by  state  bank  examiners.  If  incorporated  under  the  National 
Banking  Act,  it  is  audited  by  examiners  operating  under  the 
direction  of  the  Comptroller  of  the  Currency.  A  large  bank  which 
desires  for  its  own  protection  more  frequent  inspection  than  that 
made  by  state  or  federal  examiners  will  often  employ  in  addition 
outside  auditors,  generally  certified  accountants,  to  examine 
every  department  of  its  work. 

Clearing  House  Examinations. — Another  examination  by  an 
outside  agency  is  that  to  which  the  banks  belonging  to  the  clear- 


XXII]  AUDITS  AND  EXAMINATIONS  347 

ing  house  in  certain  large  cities  are  subject.  In  New  York  and 
in  a  few  other  cities  where  large  clearing  house  associations  exist, 
the  members  of  the  association,  for  their  mutual  protection,  em- 
ploy a  staff  of  bank  examiners.  These  examiners  devote  their 
whole  time  to  the  auditing  of  the  business  of  the  various  members 
of  the  association.  These  examinations  are  made  unexpectedly 
and  at  irregular  intervals.  One  of  their  most  important  features 
is  that  they  enable  the  examiners  to  check  up  loans  made  by 
different  institutions  in  the  city  to  the  same  individuals  or  groups 
of  individuals. 

The  purpose  of  these  outside  examinations,  no  matter  by 
whom  they  are  made,  is  to  prevent  fraud  and  to  correct  errors  of 
management. 

Examination  Procedure. — Although  the  actual  procedure  in 
making  such  examinations  varies,  there  are  certain  objectives 
which  all  examiners  have  in  mind.  Briefly  enumerated,  these 
objectives  are: 

1.  The  cash  is  counted  to  see  whether  it  agrees  with  the 

paying  teller's  figures  for  the  amount  on  hand. 

2.  Cash  items  are  examined  to  verify  the  amount;  if  any 

items  have  been  carried  in  the  cash  for  some  time,  in- 
quiry is  made  as  to  the  reason  they  are  not  liquidated. 

3.  The  balance  shown  on  the  bank's  books  as  due  to  and 

from  other  banks  is  verified  by  the  process  of  reconciling 
the  accounts. 

4.  Investigation  is  made  of  the  amount  of  overdrafts  and 

inquiry  is  made  as  to  the  security  held  against  these. 
If  the  overdrafts  have  been  standing  some  time  the 
question  is  raised  as  to  why  they  have  not  been  repaid. 

5.  The  past-due  paper  is  examined,  and  inquiry  is  made  to 

ascertain  the  reason  for  its  non-payment. 

6.  The  securities  owned  by  the  bank  and  those  held  as 

collateral  for  loans  are  examined  carefully  to  see  that 


348  BANKING  PRACTICE  [XXII 

they  are  in  proper  form  and  that  the  total  value  cor- 
responds with  the  figures  on  the  bank  records. 

7.  The  loans  are  verified  for  amount  and  form,  and  an 

examination  is  made  of  the  borrowers',  directors', 
officers',  and  clerks'  liability  both  as  makers  and 
indorsers. 

8.  A  trial  balance  of  the  ledger  is  obtained  and  the  totals 

compared  with  the  statement. 

9.  The  amount  of  capital  stock  outstanding  is  checked  and 

verified  with  the  stock  certificate  book. 
10.  Throughout  the  whole  examination  care  is  taken  to  see 
that  the  bank  is  not  violating  the  law  and  that  its 
practice  can  be  approved  as  conservative. 

The  Test  of  Solvency. — One  of  the  purposes  of  a  detailed 
audit  is  to  show  that  the  bank  is  solvent.  Solvency  is  determined 
by  examining  the  character  and  amount  of  a  bank's  assets  to  see 
whether  they  are  sufficient  to  cover  or  counterbalance  all  lia- 
bilities. The  scrutiny  of  a  bank  statement  will  not  disclose 
whether  or  not  the  bank  is  solvent,  and  there  is  only  one  test  by 
which  a  depositor  can  judge  of  the  soundness  of  a  particular 
institution.  Since  all  liabilities  must  be  met  or  liquidated  by 
assets,  the  real  test  of  the  solvency  of  a  bank  is  the  adequacy  and 
character  of  the  assets.  A  reading  of  a  bank  statement  gives 
little  information  in  this  respect,  and  it  is  for  this  reason  that  the 
examinations  are  important,  inasmuch  as  a  considerable  part  of 
the  examiner's  time  is  devoted  to  an  investigation  of  the  quality 
of  the  assets. 

The  outsider  or  the  prospective  depositor  can  form  an  approxi- 
mate opinion  as  to  the  soundness  of  the  institution  with  which  he 
is  contemplating  opening  an  account,  even  though  he  cannot  have 
absolute  assurance  of  its  solvency.  For  example,  if  the  reader  of  a 
bank  statement  will  multiply  the  amount  of  the  bank's  capital 
by  two,  and  to  the  amount  add  the  surplus  and  undivided  profits, 


XXII]  AUDITS  AND  EXAMINATIONS  349 

he  will  obtain  a  figure  which  will  indicate  the  margin  of  safety  for 
depositors  and  other  creditors.  The  difference  between  the  total 
liabilities  and  the  sum  of  its  capital,  surplus,  and  undivided 
profits  indicates  the  amount  of  the  liabilities  which  have  first 
claim  on  the  assets.  If,  for  example,  the  total  assets  of  the  bank 
in  question  are  $2,000,000,  and  the  liabilities  exclusive  of  the 
capital,  surplus,  and  undivided  profits  amount  to  $1,250,000, 
there  will  be  available  $750,000  in  assets  in  excess  of  the  Hability 
to  the  depositors  and  others  who  have  first  claim  on  the  assets. 
But  the  stockholders  of  national  banks  and  of  most  state  banks 
are  liable  for  twice  the  amount  of  the  par  value  of  the  stock  which 
they  own.  Hence,  to  obtain  the  real  margin  of  safety  for  the 
above-mentioned  bank,  there  should  be  added  to  the  $750,000 
already  obtained  the  par  value  of  the  bank's  capital  stock. 

The  Margin  of  Safety. — The  above  calculation  indicates  what 
is  known  as  the  margin  of  safety.  The  larger  the  margin,  of 
course,  the  more  confidently  the  depositor  may  look  forward  to 
transacting  business  with  the  bank.  But  the  fact  must  be  em- 
phasized that  ultimately  it  is  the  character  of  a  bank's  assets 
which  determines  its  safety.  A  margin  of  $750,000  or  of  even 
$1,000,000,  would  be  insufficient  if  the  funds  were  invested  in 
unsound  enterprises  or  if  loans  were  made  which  the  bank  would 
later  be  unable  to  collect.  Hence,  the  real  protection  of  both 
depositors  and  shareholders  from  losses  due  to  poor  management 
or  fraud  lies  ultimately  in  careful  and  frequent  examinations  of 
the  bank's  books. 


CHAPTER    XXIII 
FIDUCIARY 

Forms  of  Fiduciary  Activity. — The  remaining  chapters  of  this 
book  deal  with  certain  supplementary  bank  activities  and  fidu- 
ciary functions  which  are  not  essential  features  of  banking  busi- 
ness, nor  to  be  regarded  strictly  as  banking  functions.  They  are 
nevertheless  closely  related  to  many  banking  functions  and  make 
use  of  the  machinery  provided  for  banking  service.  Some  activi- 
ties of  this  sort  have  in  recent  years  become  so  much  a  part  of 
the  work  of  a  modern  bank  that  they  merit  consideration  here. 

The  fiduciary  activities  of  a  bank  include  the  following:  acting 
as  trustee,  executor,  and  administrator  of  wills,  bequests,  and 
estates;  serving  in  the  capacity  of  registrar,  transfer  agent,  and 
fiscal  agent  for  corporations;  acting  as  receiver  and  custodian  of 
securities  and  other  valuables.  Banks  are  well  qualified  to  act  in 
these  capacities  for  the  several  reasons  given  below: 

1.  Because  of  the  possibility  of  renewing  their  charters  in- 
definitely, banks  may  be  regarded  as  endowed  with  a  perpetual 
existence.  This  permanency  enables  them  to  assume  responsi- 
bility for  the  care  of  property  placed  in  their  hands  for  periods  of 
time  much  longer  than  the  life  of  the  average  individual. 

2.  This  continuity  of  existence  results  in  a  stabihty  of  policy 
and  a  uniformity  of  procedure  which  is  impossible  of  realization 
when  positions  of  trust  are  placed  in  individual  hands. 

3.  Banks  have  regular  places  of  business,  they  are  open  at 
definite  hours,  and  they  are  so  conservatively  managed  and  care- 
fully inspected  that  they  are  not  likely  to  speculate  with  funds 
or  to  sequestrate  them. 

4.  The  officers  of  a  bank  are  usually  experienced  financiers 
and  therefore  are  able  to  handle  wisely  the  funds  entrusted  to 

350 


XXIII]  FIDUCIARY  351 

them.  Moreover,  because  of  the  large  volume  of  business  handled, 
it  is  frequently  possible  for  banks  to  employ  specialists  in  each 
section  of  the  financial  field. 

5.  The  bank  as  a  corporation  is  impersonal  in  its  relations  to 
those  who  are  beneficiaries  under  trust  arrangements.  It  acts 
in  harmony  with  the  directions  of  the  creator  of  the  trust  and  is 
not  moved  by  pleas  or  threats. 

6.  The  cautious  and  conservative  handling  of  fiduciary  trans- 
actions is  insured  in  many  states  by  the  requirement  that  a  bank 
exercising  trust  powers  shall  deposit  securities  with  the  state 
government  as  a  guarantee  of  the  faithful  performance  of  its 
duties.  This  provision  is  sometimes  supplemented  by  laws  which 
specify  the  character  of  the  investments  to  be  made  of  funds  held 
in  trust. 

National  Banks  as  Fiduciary  Agents. — In  some  states  institu- 
tions which  desire  to  act  in  the  capacity  of  trustee  must  take  out 
a  special  charter.  In  others,  any  banks  chartered  by  the  state 
may  so  act.  It  is  only  since  the  passage  of  the  Federal  Reserve 
Act  that  national  banks  have  been  allowed  to  act  fully  in  this 
capacity.  An  amendment  to  the  Federal  Reserve  Act,  approved 
September,  1918,  gives  the  Federal  Reserve  Board  power  "to 
grant  by  special  permit  to  national  banks  applying  therefor,  when 
not  in  contravention  of  State  or  local  law,  the  right  to  act  as 
trustee,  executor,  administrator,  registrar  of  stocks  and  bonds, 
guardian  of  estates,  assignee,  receiver,  committee  of  estates  of 
lunatics,  or  in  any  other  fiduciary  capacity  in  which  State  banks, 
trust  companies,  or  other  corporations  which  come  into  competi- 
tion with  national  banks  are  permitted  to  act  under  the  laws  of 
the  State  in  which  the  national  bank  is  located."  The  Federal 
Reserve  Board  has  the  power  to  grant  or  refuse  permission,  but  it 
is  subject  to  this  restriction,  ''that  no  permit  shall  be  issued 
to  any  national  banking  association  having  a  capital  and  sur- 
plus less  than  the  capital  and  surplus  required  by  State  law  of 


352  BANKING  PRACTICE  [XXIII 

State  banks,  trust  companies,  and  corporations  exercising  such 
powers." 

The  purpose  of  granting  to  national  banks  the  powers  enumer- 
ated in  the  quotation  above,  is  to  put  the  national  banks  on  an 
equal  footing  with  the  state  institutions  in  competing  for  fiduciary- 
business.  It  is  interesting  to  observe  that,  in  addition  to  provi- 
sions contained  in  the  original  act,  amendments  have  been 
adopted  from  time  to  time  for  the  purpose  of  strengthening  the 
position  of  the  national  banks  in  competition  with  state  institu- 
tions. This  policy  is  part  of  a  general  attempt  to  make  member- 
ship in  the  federal  reserve  system  attractive  and  profitable. 

Activities  of  the  Trust  Department. — When  a  national  bank 
has  obtained  permission  to  establish  a  trust  department,  the 
board  of  directors  creates  by  resolution  a  separate  department  of 
the  bank,  under  officers  whose  duties  are  prescribed.  Two  or 
more  officers  or  employees  are  designated  to  have  charge  of  the 
trust  securities,  and  they  must  furnish  a  bond  for  the  faithful 
performance  of  their  duties.  The  trust  department  is  thus  dis- 
tinct from  the  banking  department.  Its  books  and  records  are 
kept  separately  from  those  of  the  bank,  and  a  separate  account  is 
estabhshed  in  which  cash  trust  funds  are  deposited.  If  such 
funds  are  treated  as  a  general  deposit  of  the  bank,  United  States 
bonds  or  other  securities  to  an  equivalent  amount  must  be  de- 
posited with  the  trust  department.  Likewise,  securities  and  all 
assets  other  than  the  cash  held  in  a  fiduciary  capacity  must  be 
kept  separately  from  those  of  the  bank,  and  the  securities  and 
assets  of  each  trust  must  be  kept  apart  from  every  other  trust. 
The  trust  department  of  a  national  bank  may  not  receive  deposits 
subject  to  check,  or  bills  or  other  items  for  collection  or  exchange. 
No  loans  may  be  made  to  officers  or  employees  of  the  bank. 

Corporate  Trusts. — Though  trusts  are  of  great  variety,  a 
characteristic  feature  of  them  all  is  individual  service.    A  bank 


XXIII]  FIDUCIARY  353 

may  make  an  agreement  with  an  individual  or  corporation  to  be 
responsible  for  almost  any  kind  of  a  financial  transaction.  How- 
ever, for  purposes  of  discussion,  trusts  may  be  divided  into  two 
main  classes:  corporate  trusts  and  individual  trusts.  The  term 
"corporate  trust"  covers  those  activities  carried  on  in  connection 
with  the  financial  affairs  of  a  corporation.  This  work  has  de- 
veloped until  it  covers  practically  every  financial  need  of  a  cor- 
poration, such  as  acting  as  trustee  under  mortgage  and  similar 
agreements;  serving  as  depositary  under  escrows  and  reorganiza- 
tions; acting  as  paying  agent  for  dividends,  coupons,  and  the 
principal  of  bonds  and  notes;  serving  as  transfer  agent  or  registrar 
of  stocks,  bonds,  and  notes;  or  finally,  as  receiver,  fiscal  agent,  or 
attorney. 

In  acting  for  the  individual,  the  trust  department  assumes 
responsibility  for  the  care  of  securities.  It  also  becomes  the 
trustee  of  voluntary  trusts  made  by  a  person  during  his  lifetime 
for  a  specific  purpose,  such  as  the  support  of  a  relative,  the  educa- 
tion of  children,  or  a  contribution  to  charity.  In  addition,  the 
bank  may  serve  as  the  executor  of  a  will,  as  trustee  of  funds  when 
they  have  been  distributed,  as  administrator,  and  as  guardian  of 
the  property  of  minors. 

The  Trust  Department  as  Executor  or  Administrator. — As 

executor  named  in  a  will,  or  as  administrator  of  an  estate  under  an 
appointment  of  the  court  at  the  request  of  heirs  where  there  is  no 
will,  the  trust  department  takes  charge  of  property,  files  an  in- 
ventory with  the  court,  pays  funeral  expenses  and  other  just 
claims,  and  finally  distributes  the  property  to  those  entitled  to 
receive  it.  Inasmuch  as  the  trust  department  has  already  de- 
posited security  with  the  state  authorities,  it  is  not  required  to 
bond  itself  further  as  the  executor  of  the  will.  The  estate  there- 
fore saves  the  expense  which  a  personal  executor  ordinarily  would 
incur  in  furnishing  a  bond.  If  the  drawer  of  a  will  so  desires,  he 
may  place  the  will  with  the  trust  department,  leaving  the  bank's 

23 


354  BANKING  PRACTICE  [XXIII 

receipt  for  it  among  his  papers  to  show  that  such  a  document  has 
been  executed.  As  administrator,  the  bank  exercises  only  the 
specific  powers  delegated  to  it  by  the  court,  dividing  the  estate 
among  the  heirs  in  the  proportions  fixed  by  law.  After  the  dis- 
tribution of  the  property,  the  administrator  makes  an  accounting 
to  the  court  and  obtains  his  release  just  as  does  anyone  who  is 
serving  as  executor  under  a  will. 

The  Voluntary  or  Living  Trust. — A  form  of  trust  service  which 
is  rapidly  gaining  in  popularity  is  the  voluntary  or  living  trust. 
Under  such  an  arrangement,  the  owner  of  property  transfers  title 
to  the  trustees  and  instructs  the  latter  how  to  pay  the  income  and 
reinvest  the  funds.  The  bank  collects  the  income,  invests  and  re- 
invests the  principal,  and  at  stated  intervals  renders  an  account 
to  the  donor.  These  trusts  are  sometimes  revocable  and  subject 
to  change,  and  sometimes  irrevocable  and  not  subject  to  change, 
even  by  the  donor  himself.  The  agreement  may  be  so  drawn  as  to 
make  a  will  unnecessary;  or,  if  only  a  part  of  the  owner's  property 
is  placed  in  trust,  his  will  need  only  dispose  of  the  residue.  The 
purpose  may  be  to  set  aside  funds  as  special  gifts  or  to  safeguard 
funds  with  a  provision  for  the  payment  of  the  income  to  the  owner. 

A  man  who  desires  to  retire  from  active  business  may  thus 
obtain  the  services  of  men  still  in  close  touch  with  market  activi- 
ties for  handling  his  investments.  The  creator  of  a  trust  may  in 
effect  make  the  trustee  a  managing  partner,  and  for  a  small  fee 
may  enjoy  freedom  from  financial  worry  while  receiving  his  usual 
income.  Another  development  of  the  trust  business  is  the  trustee- 
ship of  the  proceeds  from  a  life  insurance  policy.  This  form  of 
trusteeship  is  frequently  put  into  effect  in  order  that  the  proceeds 
of  the  policy  may  be  safely  and  permanently  invested  for  those 
who  are  to  benefit  by  them. 

Investment  of  Trust  Funds. — The  funds  received  under  these 
various  trust  arrangements  are  invested  according  to  the  direc- 


XXIII I  FIDUCIARY  355 

tions  of  the  will  or  the  trust  deed  under  which  they  are  held,  or, 
in  the  absence  of  specific  directions,  according  to  state  law. 
Where  liberty  to  make  investments  is  given  to  the  bank,  the  in- 
vestments of  the  trust  department  are  determined  usually  by  a 
special  committee  of  the  board  of  directors.  In  most  states,  as, 
for  example,  New  York,  when  no  special  instructions  are  given, 
trustees  are  requested  to  invest  their  funds  in  securities  which  are 
legal  investments  for  savings  banks.  A  list  of  such  securities  is 
prepared  at  intervals  by  the  state  banking  department. 

When  a  donor  wishes  to  exempt  the  trustee  from  this  limita- 
tion he  states  his  desire  in  the  will  or  deed.  Frequently  he  gives 
very  broad  powers  of  investment  to  the  trustee  bank,  permitting 
it  to  retain  investments  in  the  form  in  which  the  estate  or  trust  is 
delivered  and  relying  upon  it  to  select  suitable  securities  whenever 
reinvestments  are  necessary.  Sometimes  the  trust  provides  that 
the  donor,  if  living,  shall  be  consulted  as  to  new  investments. 
Under  trusts  placed  by  courts,  investments  are  generally  made 
with  the  approval  of  the  court,  unless  the  state  law  specifically 
enumerates  the  forms  of  investments  to  be  made  by  fiduciaries. 

Receiverships. — The  trust  department  may  be  called  upon  by 
a  court  to  act  as  receiver  for  concerns  which  are  in  financial  diffi- 
culties. The  function  of  the  trustee  in  this  case  is  to  assume 
charge  of  the  affairs  of  the  concern,  and  to  seek  to  administer 
them  in  such  a  way  as  to  restore  the  business  to  a  sound  financial 
basis.  In  acting  as  receiver,  the  bank  exercises  only  the  specific 
powers  delegated  to  it  by  the  court. 

Collateral  Trusts. — In  a  few  large  cities  of  the  country  and 
preeminently  in  New  York,  a  great  part  of  the  trust  activities  of 
banks  consists  in  handling  a  trust  created  by  mortgages  made  to 
secure  bond  issues.  In  a  transaction  of  this  sort,  the  borrowers 
transfer  to  the  trustee,  for  the  benefit  of  the  security  holders,  the 
title  to  the  property  pledged.    The  property  may  consist  of  securi- 


356  BANKING  PRACTICE  [XXIII 

ties,  real  estate,  equipment,  or  other  valuable  possessions.  If  the 
assets  pledged  consist  of  securities,  the  mortgage  is  spoken  of  as  a 
collateral  trust  and  the  securities  are  accompanied  by  a  power  of 
attorney,  or  they  are  registered  in  the  name  of  the  trustee.  When 
substitutes  of  collateral  are  permitted,  it  is  the  duty  of  the  trustee 
to  see  that  the  security  which  guarantees  the  bond  issue  remains 
unimpaired. 

Some  collateral  trust  mortgages  provide  that  the  borrowing 
corporation  shall  maintain  a  certain  margin  of  collateral.  It  is 
the  duty  of  the  bank  in  this  case  to  see  that  the  requirement  is 
met.  In  handling  mortgages  other  than  collateral  trusts,  the 
borrowing  corporation  retains  possession  of  the  property  pledged 
so  long  as  it  complies  with  the  terms  of  the  trust.  In  case  of 
default  of  either  type  of  trust,  it  is  the  duty  of  the  trustee  to  pro- 
tect the  interests  of  security-holders. 

In  acting  as  trustee  under  mortgages  securing  bond  issues,  a 
bank  is  required  to  enforce  the  provisions  of  the  mortgage  as  to 
the  delivery  of  the  bonds.  The  practice  varies,  of  course,  with 
each  issue.  In  some  cases  it  is  stipulated  that  the  entire  issue  of 
the  bonds  be  delivered  at  the  time  the  mortgage  is  recorded.  In 
other  cases  deliveries  are  to  be  made  in  instalments,  either  periodi- 
cally or  when  certain  requirements,  such  as  the  completion  of 
specified  units  of  construction,  have  been  comphed  with.  In  still 
other  cases  the  terms  of  the  mortgage  require  that  prior  bonds  be 
retired  out  of  the  proceeds  of  the  new  issue. 

Sinking  Fund  Payments. — Since  the  trustee  in  the  trans- 
actions under  discussion  represents  a  large  number  of  lenders  who 
are  relying  upon  the  bank  to  see  that  their  interests  are  protected, 
the  bank  is  responsible  for  enforcing  the  sinking  fund  provisions, 
if  any,  in  the  mortgage.  The  bank  must  see  that  the  proper 
amount  is  set  aside  at  each  period  and  must  attend  to  the  disposi- 
tion of  the  funds.  Sometimes  the  mortgage  provides  for  the  re- 
tirement of  a  part  of  the  bond  issue  by  annual  drawings;  at  other 


XXIII]  FIDUCIARY  •  357 

times  the  contract  permits  the  trustees  to  retire  a  part  of  the  issue 
at  their  option.  If  the  agreement  calls  for  the  retirement  of 
the  issue  by  periodic  drawings,  the  trustee  arranges  the  draw- 
ings by  lot  and  announces  the  numbers  of  the  bonds  called  for 
payment. 

When  the  trustee  is  authorized  to  retire  bonds  at  its  option, 
the  sinking  fund  instalments  are  usually  invested  in  interest- 
bearing  securities  to  be  held  for  the  benefit  of  the  holders  of  out- 
standing bonds;  or  the  trustee  may  purchase  in  the  open  market  a 
portion  of  the  issue  to  be  retired.  Some  mortgage  agreements 
require  that  bonds  be  retired  serially,  while  in  other  trusts  and 
similar  mortgages  a  portion  of  the  bonds  are  to  be  retired  each 
year  from  current  earnings.  In  either  case,  it  is  the  duty  of  the 
trustee  to  see  that  the  conditions  are  complied  with.  When  the 
bonds  are  paid  off,  the  release  of  the  lien  is  effected  in  the  place 
where  the  mortgage  has  been  recorded,  and  the  bonds  which  have 
been  retired  are  destroyed. 

Trustee  in  Reorganization  Proceedings. — The  trust  depart- 
ment of  a  bank  may  be  called  upon  to  act  as  the  custodian  for 
securities  deposited  under  plans  of  reorganization.  When  a  cor- 
poration defaults  in  its  obligations,  it  is  to  the  interest  of  the 
security-holders  that  the  business  be  kept  intact,  and  that  if 
possible  it  be  restored  to  a  paying  basis.  The  security  of  prop- 
erty mortgages  is  based,  not  upon  the  physical  value  of  the 
property,  but  upon  its  value  in  use  by  a  going  concern.  It  is  the 
custom,  therefore,  where  possible,  to  reorganize  defaulting  con- 
cerns; the  reorganizer  adjusts  the  claims  of  the  various  creditors 
and  restores  the  business  to  a  sound  financial  standing. 

A  reorganization  committee,  consisting  of  a  few  of  the  princi- 
pal security-holders,  is  usually  formed  as  the  first  step  in  reorgani- 
zation. All  security-holders  are  then  called  upon  to  deposit  their 
holdings  in  trust,  pending  the  formulation  of  a  reorganization 
plan  or  other  concerted  action  to  protect  their  interests.    The 


35^  BANKING  PRACTICE  [XXIII 

trustee  delivers  temporary  receipts  for  the  securities  surrendered, 
to  be  replaced  later  by  engraved  receipts  which  are  negotiable  on 
the  exchange  where  the  issue  is  listed.  The  trustee  bank  fre- 
quently assists  in  preparing  the  plan  of  reorganization,  but  its 
main  task  is  to  carry  out  the  provisions  of  the  plan.  It  collects 
the  assessments  levied  and,  after  the  plan  is  completed,  it  delivers 
new  securities  upon  the  surrender  of  the  trust  receipts. 

Protecting  and  Supervising  Security  Holdings. — Another 
fiduciary  activity  of  a  modern  bank  consists  in  safeguarding 
securities  left  in  its  care  by  customers.  The  bank  assumes  this 
custody  in  two  ways.  One  of  these  is  the  very  common  plan  of 
installing  safe  deposit  vaults  in  the  bank  building  and  renting 
space  therein  to  customers,  who  use  it  for  the  safe-keeping  of 
bonds,  stocks,  and  other  valuables.  The  bank  merely  provides 
the  place  for  the  safe-keeping  of  valuables  and  collects  a  fixed 
rental. 

The  second  method  is  for  the  bank  to  assume  the  responsibil- 
ity, not  only  of  keeping  the  securities,  but  of  giving  them  personal 
attention.  For  example,  the  bank  may  clip  coupons  and  collect 
interest  on  bonds  left  in  its  care.  The  bank  also  takes  note  of  any 
developments  which  may  affect  the  value  of  the  securities  and 
advises  the  owner  regarding  such  matters;  for  example,  conver- 
sion privileges,  the  granting  of  rights  to  subscribe  to  new  stock, 
bankruptcy  proceedings,  bonds  called  for  retirement,  and  so 
forth. 

This  type  of  bank  business  has  grown  in  importance  in  the 
United  States  since  the  ownership  of  securities  has  become  more 
general  through  the  flotation  of  the  Liberty  bonds.  Many  per- 
sons are  now  interested  in  renting  safe  deposit  vaults,  and  many 
are  willing  to  pay  a  small  fee  to  have  a  reliable  bank  look  after 
the  collection  of  income  from  their  investments.  The  service  in 
the  case  of  many  banks  also  includes  the  purchase  and  sale  of 
securities  on  behalf  of  its  customers. 


XXIII]  FIDUCIARY  359 

Advantages  to  Customers  of  Securities  Service. — The  ad- 
vantages which  accrue  to  customers  from  the  use  of  a  bank's 
securities  service  are  as  follows: 

1.  The  bank  has  special  fire-proof  and  burglar-proof  vaults 
in  which  the  securities  are  kept. 

2.  If  the  customer  wishes  to  negotiate  a  loan,  he  can  do  this 
the  more  conveniently  inasmuch  as  some  of  the  preliminaries  to 
borrowing  upon  his  securities  have  already  been  complied  with. 
For  example,  the  securities  are  in  the  possession  of  the  bank; 
they  have  been  examined  and  approved  as  "good  delivery"  upon 
the  exchange  and  can  be  transferred  readily  from  the  customers' 
security  department  to  the  loan  department  if  the  loan  is 
authorized. 

3.  By  leaving  his  securities  in  the  hands  of  a  bank  and  in 
"good  delivery"  condition,  the  customer  can  sell  when  he  desires 
with  the  least  possible  delay. 

4.  The  customer  is  not  only  saved  the  trouble  of  looking  after 
coupons  and  the  collection  of  dividends,  but  he  enjoys  the  con- 
venience and  advantage  of  information  about  changes  affecting 
the  value  of  his  securities  of  which  he  might  not  otherwise  learn 
for  some  time.  The  bank  makes  use  of  the  daily  papers  and 
financial  publications  for  notices  of  the  calling  of  bonds,  reor- 
ganizations, receiverships,  issues  of  new  shares  of  stock,  and  ex- 
piration of  conversion  privileges. 

The  Security  Nominee. — When  securities  are  committed  to 
the  complete  care  of  the  bank,  it  is  sometimes  the  custom  to  have 
them  registered  in  the  name  of  one  of  the  officers  or  employees  of 
the  bank  who  is  placed  in  charge  of  them.  This  person  is  termed 
the  nominee,  and  he  is  to  all  intents  and  purposes  the  owner  of 
the  securities.  Shares  of  stock  are  transferred  to  his  name  and 
bonds  are  registered  in  his  name.  He  has  full  power  to  transfer 
title,  to  collect  income,  and  to  exercise  any  rights  that  the  actual 
owner  would  be  able  to  exercise.    The  bank  can  thus  perform  all 


36o  BANKING  PRACTICE  {XXIII 

the  routine  functions  of  collecting  income  without  troubling  the 
owner.  In  selling,  or  exercising  any  rights,  the  customer  can  com- 
municate with  the  bank  and  his  orders  are  executed  promptly. 
In  the  practice  of  large  city  banks,  the  bulk  of  the  securities  held 
in  this  manner  are  those  kept  for  the  account  of  correspondent 
banks,  who  in  turn  are  acting  in  behalf  of  their  customers;  in  the 
majority  of  cases  the  city  bank  does  not  know  the  identity  of  the 
actual  owners  of  the  securities. 

Security  Records. — The  bank  exercises  the  same  care  with 
respect  to  securities  belonging  to  customers  as  it  does  in  handling 
its  own  holdings,  and  it  carries  out  the  instructions  of  its  deposi- 
*tors  literally.  When  securities  are  received,  the  date  of  the  trans- 
action is  recorded  and  the  name  of  the  security,  the  amount,  the 
name  of  the  depositor,  and  the  instructions  concerning  the  han- 
dling of  the  item  are  all  carefully  noted.  A  receipt  is  given  which 
specifies  exactly  what  the  depositor  may  claim.  This  receipt 
serves  as  a  means  of  identification  and  must  be  presented  before 
the  securities  will  be  returned.  While  the  securities  are  in  the 
bank's  hands,  all  transactions  regarding  them  are  accurately 
recorded,  and  they  are  removed  from  the  bank  only  upon  the 
explicit  instructions  of  the  owner.  The  customer  may  desire  the 
return  of  the  securities,  may  order  the  bank  to  sell  them,  or  may 
request  that  they  be  delivered  to  a  broker  or  bond  house  for  sale. 
In  any  case,  the  instructions  are  followed,  and  the  authority  for 
the  bank's  action  is  filed  with  its  records.  Care  is  taken  to  make 
sure  that  the  signature  of  the  letter  of  instruction  corresponds 
with  the  owner's  signature. 

Payment  for  Fiduciary  Services. — The  fees  charged  by  the 
bank  for  the  above  fiduciary  services  vary  widely  according  to 
their  nature  and  extent.  When  a  bank  is  appointed  by  the  court 
to  act  as  trustee,  the  compensation  to  which  it  is  entitled  is  fixed 
by  law  as  follows:  For  receiving  and  paying  out  all  sums  of 


XXIII]  FIDUCIARY  361 

principal  not  exceeding  $1,000,  at  the  rate  of  5  per  cent.  For 
receiving  and  paying  out  any  additional  sums  of  principal  not 
exceeding  $10,000,  at  the  rate  of  2^2  per  cent.  For  receiving  and 
paying  out  all  sums  of  principal  above  $1 1,000,  at  the  rate  of  i  per 
cent.  If  there  is  more  than  one  trustee  and  the  amount  involved 
is  less  than  $100,000,  the  commission  at  the  usual  rate  is  divided 
equally  among  the  trustees.  On  larger  amounts  each  trustee  is 
entitled  to  full  legal  fees  providing  there  are  not  more  than  three 
trustees.  One-half  of  the  commission  is  payable  when  the  princi- 
pal is  placed  in  trust,  and  the  remainder  when  it  has  finally  been 
paid  out  and  the  trust  is  completed.  Fees  for  other  services,  such 
as  the  keeping  of  securities,  preparing  income  tax  certificates,  re- 
investing funds,  and  furnishing  special  information,  vary  accord- 
ing to  agreement. 


CHAPTER    XXIV 
THE  BANK  AS  REPRESENTATIVE  OF  CUSTOMER 

Banks  as  Business  or  Personal  Representatives. — AnotheL 
supplementary  activity  which  is  characteristic  of  large  banks  is 
that  of  acting  in  a  representative  capacity.  Because  of  their 
strategic  position  at  the  centers  of  trade,  because  of  the  employ- 
ment on  their  staff  of  men  who  are  expert  in  matters  of  trade  and 
finance,  and  because  they  have  the  machinery  and  the  reputation 
requisite  for  the  successful  handling  of  trusts,  banks  are  some- 
times called  upon  to  act  in  the  capacity  of  business  representa- 
tives— and  sometimes  personal  representatives — of  individuals 
and  corporations.  While  banks  frequently  act  as  representatives 
for  individuals  in  a  great  variety  of  transactions,  the  bulk  of  such 
business  arises  from  the  needs  of  corporations. 

A  corporation  with  a  large  number  of  stockholders  and  bond- 
holders and  with  large  financial  transactions  to  put  through, 
frec|uently  finds  it  impracticable  to  maintain  an  organization  ex- 
clusively for  the  purpose  of  handling  its  financial  relations  with 
its  security-holders.  Furthermore,  the  purchasers  of  the  bonds 
or  other  obligations  of  a  corporation  desire  the  intervention  of  a 
disinterested  party  in  their  relations  with  it.  They  want  some 
guarantee  other  than  the  word  of  the  corporation  officials,  that 
the  terms  under  which  the  money  is  advanced  are  being  complied 
with,  and  they  desire  especially  some  assurance  of  the  validity  of 
the  securities  they  contemplate  purchasing.  Finally,  it  should  be 
noted  that  the  holders  of  the  securities  are  numerous  and  are 
scattered  throughout  the  country  and  even  throughout  the  world. 
Since  they  are  not  in  touch  with  each  other,  and  there  is  therefore 
no  possibility  of  mutual  counsel  and  unity  of  action  to  protect 
their  interests,  it  is  advisable  to  obtain  some  one  reliable  agency 

362 


XXIV 1        BANK  AS  REPRESENTATIVE  OF  CUSTOMER  363 

which  is  able  to  do  this  for  them.  It  would  be  very  difficult  if 
not  impossible  for  a  corporation  to  market  its  securities  on  a  wide 
scale  if  buyers  were  not  assured  that  their  interests  would  be 
looked  after  adequately  by  a  responsible  bank.  Hence,  the  cor- 
poration is  as  eager  to  secure  a  well-known  bank  to  act  as  the 
representative  of  those  who  may  purchase  its  securities  as  are  the 
security-holders  themselves. 

The  bank  thus  acts  in  the  twofold  capacity  of  representative 
for  both  the  corporation  and  individual  holders  of  its  securities. 
This  service  is  represented  by  three  forms  or  lines  of  activity. 
The  bank  may  act,  first,  as  transfer  agent  for  corporations; 
secondly,  as  registrar;  and  thirdly,  as  fiscal  agent. 

Transfer  Agent. — In  acting  as  transfer  agent  for  a  corporation, 
the  chief  duty  of  the  bank  is  to  look  after  all  routine  matters  con- 
nected with  transferring  the  ownership  of  shares  of  stock  in  the 
corporation.  Ownership  of  stock  is  represented  by  certificates 
which  may  be  drawn  up  for  any  number  of  shares.  In  transferring 
ownership  the  seller  executes  an  assignment  which  is  prepared  in 
blank  on  the  back  of  the  certificate.  This  states  that  the  number 
of  shares  specified  therein  are  to  be  transferred  to  the  party 
named  in  the  assignment,  and  authorizes  the  corporation  to  trans- 
fer ownership  on  its  books.  The  certificate  with  its  assignment 
indorsed  is  sent  to  the  corporation,  and  the  transfer  is  made  by 
drawing  up  a  new  certificate  in  the  name  of  the  new  owner  and 
changing  the  name  of  the  owner  on  the  books  of  the  corporation. 
The  old  certificate  is  canceled. 

Need  for  Transfer  Facilities. — It  is  customary  for  most 
corporations,  particularly  the  smaller  ones,  to  act  as  their  own 
transfer  agents.  In  the  buying  and  setting  of  the  shares  of  larger 
corporations  whose  securities  are  actively  traded  in  on  the  New 
York  Stock  Exchange,  a  large  number  of  transfers  arise  in  the 
course  of  a  year.     For  convenience  in  making  these  transfers 


364  BANKING  PRACTICE  [XXIV 

quickly,  some  corporations  maintain  their  own  transfer  agencies 
in  the  financial  district  of  New  York.  Other  corporations,  how- 
ever, do  not  consider  it  economical  to  maintain  an  office  and  a 
force  of  clerks  for  this  purpose,  but  prefer  to  designate  some  finan- 
cial institution  to  handle  such  matters  for  them. 

Stock  Transfer  Records. — When  a  bank  is  appointed  transfer 
agent  for  a  corporation,  it  becomes  the  custodian  of  the  stock 
transfer  book  and  the  stock  ledger,  together  with  a  supply  of 
blank  stock  certificates  of  the  corporation.  The  certificates  are 
numbered  consecutively  and  are  signed  by  the  proper  officers  of 
the  corporation  before  they  are  delivered  to  the  transfer  agent. 
They  are  not  valid,  however,  unless  countersigned  by  the  transfer 
agent  and  the  registrar.  It  is  the  duty  of  the  transfer  agent  to 
pass  upon  the  regularity  and  legality  of  the  assignment  of  the 
title  to  the  certificate,  to  enter  a  record  of  the  transfer  on  the 
books  of  the  corporation,  to  cancel  the  old  certificate,  and  to 
execute  and  deliver  the  new  certificate  in  its  stead. 

Information  Required  by  Transfer  Agent. — Certain  informa- 
tion must  be  filed  with  the  transfer  agent  regarding  the  corpora- 
tion and  its  issues  of  stock.  This  includes  a  certified  copy  of  the 
charter,  certified  minutes  of  the  corporation  and  meetings  of  the 
incorporators,  a  certified  copy  of  the  by-laws,  certified  copies  of  all 
votes  of  stockholders  and  directors  authorizing  stock  issues,  a 
certificate  from  the  treasurer  that  the  stock  is  fully  paid,  a  copy 
of  the  form  of  stock  certificates  issued,  the  vote  of  the  directors 
approving  this  form,  their  votes  appointing  the  transfer  agent  and 
the  registrar,  and  a  certified  list  of  the  officers  and  directors  of  the 
corporation,  with  their  signatures. 

When  a  certificate  of  stock  is  received  for  transfer,  it  is  ex- 
amined to  make  sure  that  the  transfer  can  be  made  legally.  The 
genuineness  of  the  document  is  established  by  the  signatures  of 
the  proper  officers  of  the  issuing  corporation,  the  transfer  agent, 


XXIV]        BANK  AS  REPRESENTATIVE  OF  CUSTOMER  365 

and  the  registrar.  The  assignment  on  the  reverse  side  of  the  cer- 
tificate is  examined  to  make  sure  that  it  has  been  properly  exe- 
cuted. If  the  name  of  the  assignee  is  not  known  to  the  bank,  his 
signature  is  usually  guaranteed  by  a  bank  or  broker  who  is  known 
to  the  transfer  agent.  Care  is  also  taken  to  see  that  the  proper 
number  of  revenue  stamps  are  attached  to  the  stock  certificate 
or  to  an  accompanying  bill  of  sale;  and  that  no  "stop"  orders 
have  been  lodged  against  the  transfer.  In  the  event  of  the  loss  or 
theft  of  a  stock  certificate,  its  owner  may  stop  transfer*  or  trans- 
fer may  be  stopped  by  order  of  the  court. 

Issue  of  Stock  Certificates — Stock  Ledger. — To  replace  the 
surrendered  certificate  the  transfer  agent  issues  a  new  one,  using 
from  its  supply  of  blank  certificates  the  one  bearing  the  lowest 
serial  number.  This  is  submitted  to  an  officer  of  the  bank  and 
to  the  registrar  of  the  issuing  company  for  their  signatures.  The 
corporation  is  kept  advised  by  frequent  reports  of  the  transfers 
made  by  its  agent. 

In  a  stock  ledger  kept  by  the  transfer  agent  are  recorded  the 
name  of  each  stockholder  of  the  corporation,  the  amount  of  his 
holdings,  his  address,  and  instructions  for  the  disposition  to  be 
made  of  his  dividends. 

Dividend  Payments. — In  some  cases  the  bank  as  transfer 
agent  may  pay  the  dividends  which  are  declared  upon  the  stock 
of  the  corporation.  If  the  bank  is  engaged  to  do  this,  the  cor- 
poration deposits  with  it  a  sum  sufficient  to  meet  the  dividend 
requirements.  The  bank  makes  out  and  mails  the  checks  to  the 
shareholders  recorded  on  the  list  of  corporation  stockholders. 
In  other  cases  the  transfer  agent  prepares  the  list  of  the  share- 
holders and  the  number  of  shares  held  by  each,  and  sends  this  to 
the  corporation  just  before  the  dividend  checks  are  to  be  made 
out.  The  corporation  itself  then  attends  to  the  work  of  preparing 
and  mailing  the  checks. 


366  BANKING  PRACTICE  [XXIV 

Subscriptions  to  New  Stock  Issues. — When  a  bank  acts  as 
transfer  agent  for  another  corporation,  it  is  sometimes  called  upon 
to  receive  subscriptions  for  increases  in  the  capital  stock  of  the 
corporation.  If  these  subscriptions  are  payable  in  instalments,  as 
frequently  happens,  the  bank  accepts  the  payments,  and  keeps 
an  accurate  record  of  each  shareholder's  subscription  payments 
and  the  amount  remaining  unpaid.  When  payment  is  completed 
a  certificate  for  the  shares  purchased  is  issued. 

Registrar  for  Corporations. — Another  representative  function 
performed  by  a  bank  is  that  of  acting  as  registrar.  The  purpose 
of  a  bank  acting  in  this  capacity  is  to  assure  the  validity  of  secur- 
ity issues  by  having  some  disinterested  party  exercise  control 
over  the  amount  of  an  issue  and  the  circumstances  under  which  it 
is  made.  The  supervision  furnished  by  the  transfer  agent  is 
largely  to  protect  the  corporation  against  fraudulent  transfers  and 
forgeries.  The  public  is  interested  in  knowing  that  stock  certifi- 
cates and  bonds  are  issued  strictly  in  accordance  with  the  legal 
powers  of  the  corporation  concerned.  The  registration  of  stock 
by  a  disinterested  party  is  essential  to  the  validity  of  securities 
traded  in  on  the  New  York  Stock  Exchange. 

Main  Functions  of  Registrar. — It  is  the  duty  of  the  registrar 
of  a  corporation's  stock  to  see  that  the  amount  of  stock  issued  does 
not  exceed  the  amount  legally  authorized.  Careful  supervision 
is  exercised  to  see  that  for  every  new  share  issued  an  old  one  is 
canceled.  In  the  case  of  an  increase  in  capitalization,  of  course, 
each  new  share  issued  must  be  balanced  by  the  receipt  of  an 
equivalent  amount  of  value.  A  bank  may  not  act  as  both  regis- 
trar and  transfer  agent  for  the  same  corporation,  inasmuch  as  the 
work  of  the  registrar  is  designed  to  act  as  a  check  upon  the  work 
of  the  transfer  agent.  However,  many  banks  act  as  transfer 
igents  for  one  group  of  corporations,  and  as  registrars  for  a  differ- 
ent group. 


XXIV]        BANK  AS  REPRESENTATIVE  OF  CUSTOMER  3^7 

Considerable  work  for  the  registrar  arises  in  connection  with 
the  issue  of  corporation  bonds.  Such  securities  are  of  two  kinds, 
registered  and  coupon.  Coupon  bonds  are  payable  to  bearer,  and 
the  coupons  themselves  can  be  cashed  by  anyone.  The  owner  of 
the  bonds  collects  his  interest  by  detaching  and  presenting  for 
payment  the  coupons  as  they  mature.  The  registered  bond  differs 
from  the  coupon  bond,  in  that  title  to  the  bond  and  to  the  interest 
is  passed  by  transfer  on  the  books  of  the  corporation  in  the  same 
way  that  the  ownership  of  stocks  is  transferred.  Interest  due  on 
a  registered  bond  is  paid  by  check  and  sent  to  the  registered 
holder. 

Some  bonds  are  registered  as  to  principal  only.  In  this  case 
title  to  the  principal  of  the  bond  is  passed  by  a  transfer  on  the 
books  of  the  corporation,  whereas  interest  is  paid  by  means  of 
coupons. 

Bond  Transfers. — When  a  bond  is  presented  for  registration 
or  for  transfer,  the  former  owner  indorses  on  it  a  power  of  attorney 
or  assignment  similar  to  that  found  on  the  back  of  a  stock  certifi- 
cate. The  security  is  then  submitted  to  the  registrar  to  have  the 
ownership  transferred  on  its  books.  In  making  the  transfer,  new 
bonds  are  not  always  issued.  The  old  bond  is  sometimes  returned 
to  the  purchaser  with  the  change  in  ownership  indicated  merely 
by  the  indorsement  of  the  bank  thereon,  the  record  of  the  date  of 
registration,  and  the  signature  of  the  official  of  the  bank  who  is 
acting  as  registrar.  The  bank,  of  course,  keeps  a  careful  record 
of  the  bond  numbers,  and,  if  coupon  bonds,  the  number  of  the 
coupon  next  due;  of  the  names  and  addresses  of  all  registered 
bondholders  to  whom  interest  is  to  be  sent ;  the  dates  on  which  the 
bonds  have  been  transferred  from  one  person  to  another;  and  the 
total  amount  of  bonds  registered  for  each  holder. 

Interest  Payments  by  Registrar. — As  in  paying  dividends,  so 
in  paying  interest,  the  registrar  may  either  receive  from  the 


368  BANKING  PRACTICE  [XXIV 

corporation  a  lump  sum  out  of  which  to  make  payments  to  the 
bondholders;  or  it  may  furnish  the  corporation  with  a  list  of  the 
registered  bondholders  and  the  corporation  itself  may  mail  the 
interest  checks.  If  the  bank  mails  the  interest  checks,  it  requires 
that  a  properly  executed  income  tax  certificate  be  filed  with  it  by 
each  bondholder.  To  facihtate  this  matter,  a  letter  is  mailed  at  a 
convenient  interval  before  the  interest  is  due,  enclosing  the  proper 
certificate  and  requesting  that  it  be  duly  executed  and  returned 
to  the  bank  before  the  date  on  which  the  interest  is  due.  This 
formality  is  necessitated  because  of  the  fact  that  the  law  requires 
the  income  tax  in  such  cases  to  be  deducted  at  the  source. 

The  Bank  as  Fiscal  Agent. — Another  role  in  which  banks  act 
as  representatives  for  corporations  is  that  of  fiscal  agent.  In  the 
investment  world  every  day  large  numbers  of  coupons  fall  due  for 
payment,  and  dividends  and  interest  need  to  be  paid  on  the  securi- 
ties held  by  investors.  The  corporations  responsible  for  these 
payments  are  scattered  in  various  parts  of  the  world,  but  for  the 
convenience  of  investors  a  large  number  of  the  obligations  are 
payable  in  New  York.  Banks  in  all  parts  of  the  world  accept 
and  cash  such  claims,  sending  to  New  York  for  reimbursement  the 
coupons,  checks,  and  bonds  as  they  mature. 

To  meet  these  obligations,  the  larger  debtor  corporations  and 
governments  may  operate  their  own  paying  ofiices  at  a  few  main 
centers.  For  the  convenience  of  the  investing  public,  however, 
it  is  the  practice  for  a  large  corporation  to  appoint  as  its  fiscal 
agent  a  bank  or  trust  company  located  in  the  financial  district  of 
New  York.  A  contract  is  made  between  the  corporation  and  the 
bank,  whereby  it  is  agreed  and  announced  that  payments  will  be 
made  by  the  bank  for  the  account  of  the  corporation.  The  funds 
needed  for  making  payments  may  be  deposited  in  a  special  ac- 
comit,  or  the  bank  may  be  authorized  to  charge  the  matured 
bonds  and  coupons  to  the  regular  deposit  account  of  the  corpora- 
tion.   The  bank  obtains  a  specimen  or  detailed  description  of  the 


XXIV]         BANK  AS  REPRESENTATIVE  OF  CUSTOMER  3^9 

bonds  issued,  together  with  a  copy  of  the  signatures  appearing 
therein.  These  records  enable  it  to  determine  the  vahdity  of  the 
bonds  and  the  coupons  presented  for  payment. 

Coupon  Payments. — When  bond  coupons  are  payable  at  any 
bank,  they  are  returned  to  the  bank  which  acts  as  fiscal  agent, 
enclosed  in  a  particular  style  of  envelope  furnished  by  the  fiscal 
agent.  The  envelope  shows  the  name  of  the  issuing  company,  the 
number  and  amount  of  the  coupons  enclosed,  and  the  total 
amount.  Coupons  are  carefully  counted  and  examined  to  see 
that  the  amount  enclosed  agrees  with  the  total  on  the  outside  of 
the  envelope,  that  they  are  due,  that  the  proper  ownership  certifi- 
cate is  attached,  and  that  no  stop  payment  orders  have  been 
lodged  against  them.  The  payment  of  coupons  may  be  stopped 
when  the  bonds  to  which  they  have  been  attached  have  been  lost 
or  stolen. 

As  the  paid  coupons  accumulate  they  are  charged  to  the  ac- 
count of  the  corporation,  and  transferred  to  larger  envelopes,  on 
the  outside  of  which  appears  a  list  of  the  contents.  Finally  they 
are  returned  to  the  debtor  corporation  just  as  paid  checks  or 
vouchers. 

Fiscal  Agents  and  the  Collection  of  Income  Tax  Payments. — 

As  already  indicated,  the  income  tax  law  of  the  United  States 
imposes  upon  the  paying  agent  the  task  of  seeing  that  the  recipi- 
ents of  income  from  corporations  pay  the  required  tax.  This  tax 
burden  is  sometimes  assumed  by  the  corporation  although  the 
assumption  of  the  burden  is  optional.  However,  to  make  an  issue 
more  attractive  the  bonds  are  often  sold  tax  free,  the  debtor 
corporation  paying  the  tax  at  the  rate  of  2  per  cent  on  the  bond 
income.  It  should  be  noted  that  corporations,  governments,  and 
municipalities  domiciled  outside  the  United  States  are  not  per- 
mitted to  assume  this  normal  tax. 

In  collecting  the  income  from  a  tax-free  issue  of  securities,  the 
24 


370  BANKING  PRACTICE  [XXIV 

owner  indicates,  by  the  use  of  a  special  form  of  income  tax  return, 
whether  or  not  he  is  exempt  from  the  federal  income  tax.  If  he 
claims  exemption  the  corporation  does  not  need  to  pay  any  tax 
for  him.  If  he  does  not  claim  exemption,  the  debtor  corporation 
pays  the  owner  through  the  fiscal  agent  in  full  for  his  coupons,  and 
in  addition  it  pays  the  government  2  per  cent  of  the  amount  paid 
to  the  owner.  When  the  owner  of  such  securities  pays  his  income 
tax,  he  is  permitted  to  deduct,  from  the  gross  amount  of  taxes  due, 
this  2  per  cent  which  was  paid  for  him  at  the  source. 

A  corporation  may  delegate  to  the  bank  acting  as  its  fiscal 
agent  the  task  of  handling  income  tax  deductions,  and  this  is 
frequently  found  convenient.  The  bank  then  determines  from 
the  ownership  certificates  filed  with  it,  the  amount  to  be  paid  to 
the  government;  and  each  month  it  makes  the  requisite  disburse- 
ment to  the  government.  From  time  to  time  the  fiscal  agent 
forwards  to  the  Treasury  Department  the  ownership  certificates 
received  from  those  subject  to  the  tax.  The  Treasury  officials 
are  thus  enabled  to  account  for  the  taxes  paid  at  the  source,  and 
to  check  up  the  returns  of  individual  taxpayers  to  see  whether 
any  have  claimed  exemption  who  are  not  entitled  to  it. 

Compensation  for  Services. — The  compensation  of  the  bank 
for  its  services  as  registrar  and  transfer  agent  is  determined  by 
contract  agreement.  Sometimes  the  contract  specifies  a  payment 
for  each  certificate  registered  and  for  each  transfer.  When  a  bank 
acts  as  fiscal  agent,  its  compensation  sometimes  takes  the  form  of 
a  small  commission  on  the  interest  payments  made.  Frequently 
the  parties  to  these  arrangements  enter  into  a  yearly  contract  by 
which,  for  a  fixed  total  sum,  the  bank  agrees  to  do  all  the  work 
required  but  with  an  allowance  of  special  fees  for  work  requiring 
special  attention,  such  as  the  issue  of  two  $5o-share  certificates 
for  one  of  $100,  or  the  special  work  of  making  a  transfer  and 
getting  out  the  new  certificate  on  the  same  day.  In  addition  to 
such  compensation  as  may  be  agreed  upon,  the  corporation  bears 


XXIV]        BANK  AS  REPRESENTATIVE  OF  CUSTOMER  371 

the  cost  of  engraving  and  providing  new  certificates  and  pays  the 
expenses  for  stationery  and  postage. 

Service  in  Import  and  Export  Trade. — A  bank  which  has 
customers  located  in  various  parts  of  the  world  is  frequently 
called  upon  to  act  as  their  representative  in  the  exportation  and 
importation  of  merchandise.  The  bank  may,  for  instance,  receive 
and  care  for  goods  shipped,  collect  insurance  claims,  make  pay- 
ments on  ships  under  construction,  and  undertake  collections  of 
irregular  character.  Only  a  few  of  these  services  need  here  be 
considered. 

Custom  house  procedure  requires  that  import  shipments  be 
claimed  immediately  upon  their  arrival  in  port;  otherwise  the 
goods  are  seized  and  stored  by  the  government  with  a  resultant 
heavy  charge  upon  the  shipper.  To  avoid  this  expense  a  bank, 
acting  as  the  representative  for  a  foreign  shipper,  engages  a  cus- 
tom house  broker  to  look  after  the  clearing  of  the  goods.  When 
the  broker  has  cleared  the  goods,  he  delivers  the  warehouse  re- 
ceipt to  the  bank,  which  then  has  the  goods  insured  against  all 
risks.  Sometimes  the  broker  is  employed  to  insure,  forward,  and 
even  sell  the  goods. 

It  should  be  noted  that  the  necessity  for  holding  and  storing 
imports,  as  described  above,  arises  most  frequently  when  the  con- 
signee does  not  promptly  pay  the  draft  without  which  he  cannot 
get  possession  of  the  goods.  Delays  in  the  payment  of  drafts 
drawn  against  shipments  of  goods  occur  for  reasons  of  a  tem- 
porary nature:  the  drawee  may  wish  to  examine  the  merchandise 
before  making  payment;  or  there  may  be  some  irregularity  in  the 
papers  or  in  the  merchandise  which  he  desires  to  have  corrected. 
The  bank  may  in  such  case  allow  the  drawee  the  time  desired  for 
paying  the  draft.  When  the  bill  is  finally  settled  the  bank  gives 
a  delivery  order  to  the  drawee  and  he  obtains  possession  of  the 
goods.  If  the  bill  is  not  paid,  the  bank,  at  the  shipper's  request, 
may  institute  legal  proceedings  against  the  drawee. 


372  BANKING  PRACTICE  [XXIV 

Sometimes  clients  consign  shipments  of  merchandise  direct  to 
a  bank,  to  be  held  until  the  client  can  dispose  of  them  to  the  best 
advantage.  Documents  made  out  in  the  name  of  the  bank  are 
transmitted  to  the  broker,  who  enters,  stores,  and  insures  the 
goods  in  the  usual  manner.  The  shipper  then  proceeds  to  sell  the 
cargo  in  whole  or  in  part.  If  he  desires,  the  bank  assists  him  in 
this  sale  by  keeping  him  advised  as  to  the  state  of  the  market  and 
by  having  his  orders  executed  promptly. 

If  a  shipment  consists  of  perishable  or  seasonable  goods  and 
if  the  documents  which  must  be  presented  to  obtain  dehvery 
have  not  arrived,  the  bank,  as  representative  for  the  shipper,  may 
protect  his  interest  by  furnishing  to  the  customs  official  guar- 
antees of  indemnity,  and  thus  may  have  the  goods  delivered  so 
that  they  can  be  disposed  of. 

Bail  Bonds. — Occasionally  a  bank  is  requested  to  have  surety 
companies  write  bail  bonds  for  the  accounts  of  clients.  These 
requests  may  originate  in  the  following  manner:  the  law  provides 
that  ships  which  have  been  libeled  for  damages  arising  out  of 
colHsion,  fire,  or  some  other  accident,  shall  be  released  for  the 
benefit  of  the  owners  as  soon  as  possible.  In  lieu  of  the  ship  or 
cargo  some  other  security  must  be  provided.  The  customary 
method  of  providing  such  security  is  by  means  of  a  bail  bond 
written  by  a  surety  company  on  behalf  of  the  ship-owner.  Under 
such  a  bond  the  surety  company  agrees  to  pay  any  amount  which 
may  be  later  adjudged  to  the  plaintiff  by  the  court. 

Special  Services  for  Foreign  Clients. — Foreign  clients  often 
have  occasion  to  make  payments  in  the  United  States,  under 
conditions  which  require  a  trustworthy  local  agent  to  determine 
when  and  to  what  extent  the  conditions  have  been  fulfilled. 
Many  such  transactions  have  arisen  within  recent  years  in  con- 
nection with  the  purchase  by  foreign  shipping  companies  of 
vessels  built  in  the  United  States.     Payments  may  be  made  on 


XXIV]        BANK  AS  REPRESENTATIVE  OF  CUSTOMER  373 

ships  under  construction  by  instalments  advanced  as  the  ship 
reaches  various  stages  of  completion.  In  this  case  the  bank, 
through  its  representative,  makes  payment  for  the  account  of  its 
client  as  the  conditions  are  complied  with.  Sometimes  payments 
are  made  for  the  purchase  of  vessels  already  constructed.  The 
bank,  acting  as  representative  in  this  case,  dehvers  the  money 
only  when  the  proper  documents  evidencing  ownership  and 
registry  are  delivered  in  accordance  with  the  purchaser's 
instructions. 


CHAPTER    XXV 

ADVISORY  FUNCTIONS 

The  Bank  as  a  Business  Consultant.— A  third  activity  in 
which  banks  engage  but  which  is  not  strictly  speaking  a  banking 
function  consists  in  serving  their  customers  in  an  advisory  ca- 
pacity. The  prosperity  of  a  bank  is  wholly  dependent  upon  the 
volume  of  business  handled  by  its  clientele.  Realizing  this, 
bankers  are  constantly  on  the  alert  to  further  the  interests  and 
assist  in  extending  the  business  of  the  bank's  depositors  in  every 
legitimate  way.  Efforts  in  this  direction  are  not  confined  to  the 
activities  of  any  one  department  or  any  group  of  departments. 
Each  department,  and  indeed  the  whole  administrative  force  of 
the  bank,  seeks  to  furnish  advice  and  assistance  of  a  legitimate 
kind  to  depositors,  on  request.  The  bank  officials  are  ready  to 
meet  their  customers  for  consultation  and  to  give  them  the  benefit 
of  any  information  which  directly  or  indirectly  will  help  them  in 
their  business. 

The  banker  in  the  small  town  is  called  upon  very  frequently 
for  his  advice,  and  the  subjects  on  which  he  proffers  counsel  range 
all  the  way  from  methods  of  financing  the  purchase  of  a  house  to 
the  settlement  of  domestic  relations.  In  fact,  the  whole  effort  of 
progressive  banks,  whether  in  small  towns  or  large  cities,  is 
directed  toward  giving  their  customers  the  most  helpful  service 
possible.  It  would  be  impossible,  even  if  desirable,  to  discuss  in  de- 
tail the  many  kinds  of  service  that  a  bank  can  render  to  its  clients. 
It  is,  however,  desirable  to  consider  certain  recent  developments 
in  this  direction  among  the  larger  banks  of  the  metropolis. 

Recent  Activity  in  Foreign  Trade. — One  of  the  most  interest- 
ing and  promising  phases  of  modern  banking  activity  is  connected 

374 


XXV]  ADVISORY  FUNCTIONS  375 

with  the  development  of  foreign  trade.  During  the  years  im- 
mediately preceding  the  war,  and  especially  since  the  war,  there 
has  been  a  great  awakening  of  interest  on  the  part  of  American 
manufacturers  and  merchants  in  the  possibilities  of  foreign  trade. 
Nevertheless,  there  are  still  many  American  traders  who  are 
unaware  how  to  obtain  foreign  credit  information,  how  to  select 
suitable  foreign  agents  and  representatives,  and  where  to  look 
for  the  proper  channels  of  distribution  for  their  special  products 
and  for  information  as  to  the  best  method  of  packing  and  shipping 
their  goods  and  financing  their  business. 

A  large  bank  with  international  financial  connections  is  in  a 
position  to  procure  all  such  information  and  to  give  invaluable 
advice  to  its  customers  concerning  trade  in  foreign  fields.  Some 
of  the  more  important  metropolitan  banks  make  special  efforts 
to  obtain  the  services  of  experts  in  foreign  trade,  and  to  devise 
means  to  bring  their  clients  in  this  country  into  touch  with  oppor- 
tunities abroad  of  which  the  latter  might  otherwise  remain  in 
ignorance. 

The  Foreign  Trade  Department. — To  give  this  advisory  ser- 
vice, one  of  the  large  banks  in  this  country  maintains  an  inter- 
national trade  staff,  which  is  divided  into  two  sections,  domestic 
and  foreign.  The  domestic  section  is  subdivided  according  to 
federal  reserve  districts.  For  each  part  of  the  country  a  thorough 
study  is  made,  both  of  the  products  which  it  contributes  to  our 
export  trade  and  of  the  demand  which  exists,  or  may  be  developed 
abroad  for  its  commodities  and  manufacture.  The  foreign  section 
of  the  international  trade  staff  is  composed  of  men  of  foreign 
birth  who  have  had  extensive  commercial  experience  abroad  and 
who  are  therefore  thoroughly  acquainted  with  the  customs, 
psychology,  and  commercial  life  of  foreign  peoples.  These  men, 
known  as  consultants,  are  assigned  the  study  of  the  chief  com- 
mercial cities  of  the  countries  with  which  they  are  most  familiar. 
Through  their  work,  the  foreign  department  is  enabled  to  make  an 


376  BANKING  PRACTICE  [XXV 

intensive  study  of  commerce  and  industry  in  every  part  of  the 
world. 

Foreign  Branches  and  Trade  Reports.— In  addition  to  its 
foreign  representatives,  the  bank  referred  to  has  a  considerable 
number  of  foreign  branches.  These  branches  may  be  regarded  as 
outposts  of  American  interests  in  foreign  fields.  Each  foreign 
branch  has  a  special  trade  representative  who  devotes  his  entire 
time  to  studying  trade  conditions  and  searching  for  business 
opportunities  in  his  particular  district.  Four  reports  to  the  home 
office  are  made  by  these  representatives.  One  of  these  is  a  com- 
mercial report,  which  deals  with  trading  concerns;  another  is  an 
industrial  report,  which  deals  with  manufacturing  establishments; 
a  third  is  a  trade  report,  which  covers  the  field  by  commodities; 
and  a  fourth  handles  miscellaneous  matters,  such  as  trade  legisla- 
tion, trade-mark  laws,  customs  and  tariffs,  general  shipping  news 
and  facilities,  public  works,  and  the  names  of  firms  or  individuals 
qualified  to  act  as  agents  for  domestic  concerns.  In  addition  to 
their  regular  reports  the  branches  send  any  available  information 
about  trade  opportunities. 

Dissemination  of  Information. — One  of  the  main  functions  of 
the  foreign  trade  department  is  its  publicity  work.  It  collects 
the  reports  from  the  representatives  stationed  abroad,  analyzes 
them,  and  combines  them  for  distribution.  The  dissemination  of 
information  thus  gathered  is  effected  by  the  publication  of  a 
foreign  trade  bulletin,  by  replies  to  letters  of  inquiry,  and  by 
interviews.  In  these  ways  opportunities  for  American  business 
houses  in  foreign  markets  are  brought  to  the  attention  of  the 
bank's  customers.  In  the  bulletin,  for  instance,  are  listed  the 
names  of  foreign  visitors  who  are  in  this  country  to  make  business 
connections,  and  also  the  names  of  persons  desiring  to  represent 
American  concerns  abroad  or  those  seeking  representation  in  the 
United  States.    Here  also  are  published  reports  and  information 


XXV]  ADVISORY  FUNCTIONS  377 

in  regard  both  to  specific  products  and  to  topics  of  general  interest 
to  exporters  and  importers. 

Individual  Service  to  Correspondents. — The  bank's  corres- 
pondents are  encouraged  to  write  for  information  on  matters 
relating  to  foreign  trade.  If  necessary,  their  letters  are  made  the 
subject  of  special  investigation.  No  trouble  is  spared  to  get 
the  latest  reports  covering  the  information  sought,  and  the 
bank's  branches,  traveling  representatives,  and  correspondents 
in  all  parts  of  the  world  are  called  upon  to  comply  with  any 
request  for  data.  The  same  sort  of  service  is  given  to  those 
who  call  in  person  to  discuss  their  problems  with  members  of 
the  foreign  trade  department.  The  information  given  varies 
from  the  definition  of  technical  terms,  to  advice  as  to  the  best 
method  of  organizing  an  export  department  or  of  packing 
merchandise. 

Service  to  Travelers. — The  bank  makes  a  specialty  of  aiding 
American  visitors  in  foreign  countries,  as  well  as  foreign  visitors 
in  America.  To  Americans  who  desire  to  go  abroad,  valuable 
information  is  given  by  the  employees  who  are  familiar  with 
conditions  in  the  countries  of  destination  because  of  long  resi- 
dence there.  Letters  of  introduction  to  branches,  correspondents, 
and  customers  of  the  bank  are  readily  provided  and  clients  are 
urged  to  make  use  of  the  facilities  thus  afforded. 

Similarly,  foreign  clients  who  visit  this  country  find  the  bank 
eager  to  render  service.  In  the  foreign  trade  department,  the 
visitor  is  greeted  by  an  employee  who  speaks  his  language  and 
understands  his  business  methods  and  point  of  view.  If  he  has  a 
product  to  market  in  the  United  States,  every  effort  is  made  to 
put  him  in  touch  with  the  bank's  customers  throughout  the  coun- 
try who  may  be  interested  in  his  offer.  The  domestic  section  of 
the  foreign  trade  department  is  called  upon  to  suggest  in  which 
part  of  the  country  the  demand  is  likely  to  be  greatest  for  the 


378  BANKING  PRACTICE  [XXV 

particular  commodity  the  foreign  visitor  has  for  sale,  and  he 
is  urged  to  make  use  of  the  facilities  of  the  bank.  If  he  de- 
sires to  travel  in  the  United  States,  letters  of  introduction  to 
domestic  correspondents  and  customers  of  the  bank  are  fur- 
nished him. 

Foreign  Language  Directories. — Besides  these  specific  ser- 
vices to  individuals,  the  foreign  trade  department  of  the  bank 
offers  certain  general  services  to  all  alike.  A  directory  has  been 
prepared  in  several  foreign  languages  for  circulation  in  the  coun- 
tries using  these  languages.  This  directory  contains  a  list  of  all 
the  business  houses  which  the  bank  numbers  among  its  domestic 
customers,  and  a  hst  of  the  chief  products  of  the  United  States 
with  the  names  of  the  firms  dealing  in  them.  With  reference  to 
each  concern  mentioned  are  given  the  cable  address  of  each 
concern;  the  codes  it  uses  for  cablegrams;  the  date  of  its  establish- 
ment; its  capital  and  surplus;  the  names  of  its  agents  abroad,  if 
any;  the  products  dealt  in;  and  a  statement  as  to  whether  or  not 
it  does  an  export  and  import  business. 

Foreign  Trade  Conventions. — Another  activity  of  the  foreign 
trade  department  is  to  attend  all  important  conventions  and 
gatherings  where  matters  relating  to  foreign  trade  development 
are  discussed,  with  the  object  of  tendering  the  information  which 
is  sought  there  by  people  from  all  parts  of  the  country.  These 
services,  while  primarily  designed  for  customers,  are  given  freely 
to  others.  The  bank's  aim  is  to  aid  in  the  up-building  of  domestic 
and  international  trade. 

Individual  Service. — Some  large  banks  are  now  acting  as 
advisers  to  clients  in  regard  to  special  problems,  for  which  work 
what  is  termed  an  industrial  service  department  has  been  or- 
ganized. The  personnel  of  the  department  consists  of  experienced 
industrial  engineers,  who  travel  about  the  country  making  sur- 


XXV]  ADVISORY  FUNCTIONS  379 

veys  of  the  organization  and  plants  of  industrial  concerns  which 
are  either  customers  or  prospective  customers  of  the  bank.  Such 
inspection  serves  two  purposes:  the  bank  acquires  valuable 
credit  information,  and  the  customer  is  proffered  definite  sugges- 
tions for  the  improvement  of  his  business.  The  results  of  the 
surveys  are  embodied  in  comprehensive  reports  submitted  alike 
to  the  bank  and  to  the  client. 

The  factors  which  determine  the  credit  standing  of  a  large 
manufacturing  concern  are  so  varied  and  so  intangible  that  they 
cannot  be  fully  presented  on  a  balance  sheet  or  a  profit  and  loss 
statement.  Some  of  the  most  important  of  these  factors  are  the 
location  of  the  industry  with  respect  to  raw  materials,  labor 
supply,  and  markets;  the  industrial  conditions  in  the  plant;  its 
methods  of  management;  the  system  of  cost  accounting  in  vogue; 
the  price  at  which  the  product  sells;  the  strength  of  competition; 
and  so  on.  It  is  part  of  the  work  of  the  industrial  service  experts 
to  obtain  and  interpret  such  facts  for  the  guidance  of  the  credit 
department  of  the  bank. 

Service  to  Others  than  Customers. — The  work  done  by  the 
industrial  engineers  serves  a  far  more  important  purpose,  how- 
ever, than  merely  to  collect  information  for  the  bank's  credit 
department.  Their  investigations  are  made  primarily  for  the 
purpose  of  tendering  advice  and  assistance.  Hence  they  some- 
times survey  plants  of  concerns  which  do  not  need  bank  credit 
or  which  are  not  customers  of  the  bank.  The  long  experience  of 
these  experts  in  the  industrial  field  enables  them  to  analyze 
almost  any  type  of  business  and  make  suggestions  for  its  improve- 
ment. As  a  result  of  these  investigations,  the  industrial  service 
department  has  accumulated  valuable  data  for  each  industry, 
covering  cost  of  production  and  the  elements  making  up  this  cost, 
profits,  and  similar  information. 

In  addition  to  furnishing  individuals  with  special  advice  about 
their  business  problems,  the  industrial  service  department  fre- 


38o  BANKING  PRACTICE  [XXV 

quently  performs  a  service  of  more  general  nature.  This  service 
takes  the  form  of  the  pubhcation  of  studies  and  reports  on  the 
common  problems  of  manufacturers,  which  reports  are  distributed 
by  the  bank's  publicity  department. 


INDEX 


Absence,  employees,  32 
Acceptances,  trade,  275,  288 
Accounting     (See  ' '  Bookkeeping  ") 
Accounts, 

accrued  interest,  301 

alphabetical  division,  307 

analyzing,    transit  department  as 
aid  to,  141 

asset,  339 

attached,  62 

classification,  316 

depositors',  27 

expense,  336 

general  ledger,  337-339 

liability,  339 

nominal,  330 

"over  and  short,"  100 

overdue,  collection,  165 

property,  330 

receivable,  credit  analysis,  265 

reconcilement  by  audits,  345 
Accrued  interest,  301 

investment  securities,  3 1 1 
Administrator,  trust  department  as, 

353 

Advisory  functions,  374-380 
American  Bankers'  Association,  34 

universal  collection  system,  140 
American  Institute  of  Banking,  34 
Arrival  drafts,  security  for  loans,  278 
Articles  of  incorporation,  1 1 
Assets, 

accounts,  339 

current,  credit  analysis,  267 
Atlanta  Clearing  House,  134 
Attached  accounts,  62 


Auditing  department, 

division  of  work,  342 

general  audit,  345 

personnel,  341 

reconcilement  of  accounts,  345 
Audits,  340-349 

continuous,  343 
purpose,  344 

general,  345 

internal,  340 

spot,  343 

B 

Bail  bonds,  372 
Balance  sheet,  328 

credit  analysis,  262 
Bank, 

drafts,  issuance,  166 
notes, 

federal  reserve,  50 
national,  48 
order  blank,  13 
vs.  deposit  currency,  51 
stocks,  as  collateral  security,  282 
Bankers'  bills,  176 
Bankers'   checks,    foreign   exchange, 

180 
Bankers'  long  bills,  foreign  exchange, 

181 
Banks,     (See      also       "Commercial 
banks, "       "  National      banks, ' ' 
"State  banks") 
accounting  operations,  53 
classification,  7 
correspondent,  129 

remittance  letter  to.  Form,  131 
credit  extension,  250-272 


381 


382 


INDEX 


Banks — Continued 

examinations    by    clearing    house, 

124 
foreign  exchange  transactions,  223 
foreign, 

loans,  223 

settlement  with,  226 
functions, 

advisory,  374,  380 

deposit,  43-46 

exchange,  47-52 

fiduciary,  53,  350-361 

loan,  52 

representative,  362-373 
incorporation,  3 
management,  17 
national,  as  fiduciary  agents,  351 
organization,  3,  6 
private,  3 

privately  owned  enterprises,  40 
publications,  27 
sale  of  exchange,  222-232 
savings,  7,  37 
types,  254 
Batch  proof,  69 

receiving  teller.  Form,  70 
Bills, 

finance,  foreign  exchange,  194 
of  exchange,  176 

clean  bills,  177 

commercial,  176 

documentary  bills,  177,  179 

short  and  long,  179 
of  lading, 

collateral  securities,  282 

ocean,  177 

security  for  loans,  277 
Block  proof,  69 

Board  of  directors    (See  "  Directors") 
Bonds, 

as  investments,  305 

motives  for  buying,  306 

secondary  reserve,  307 
bail,  372 


Bonds — Continued 

borrowing  and  lending,  310 

corporation,  issue  of,  367 

credit  analysis,  266 

industrial,  collateral  for  loans,  280 

railroad,  collateral  for  loans,  280 

security  for  loans,  277 

transfer  of,  367 
Bookkeepers, 

computation  of  interest,  324 

customers  ledger,  315 

errors,  322 

general  ledgers,  316,  328-339 
computation  of  reserve,  333 

proving  ledgers,  323 

responsibility  for  payments,  326 

signature  control,  327 

statement  prepared  by,  334,  337 

work,  315 
Bookkeeping,  313-327 

audits,  340-349 

checks  on,  323,  330 

customers  ledger,  315 

errors,  322 

general  ledgers,  316,  328-339 

information  furnished,  313 
Boston  Clearing  House,  133 
Boston  ledger,  319 
By-laws,  model,  13 


Cables, 

foreign  exchange,  182,  186 

payment  by,  foreign  collections,  199 

position  sheet,  Form,  191 

transfer  rates,  186 

transfers,  227 
Call  loans,  299 

Capital,  minimum  required,  8 
Cash,     (See  also  "  Money  ") 

account,  credit  analysis,  262 

assistant  teller's,  92 

bank's  supply  ot,  87 


INDEX 


383 


Cash — Contintied 
discounts,  287 
inventory,  91 
items, 

collection,  127 
collection  of  unpaid,  160 
import    collections    department, 

225 
included  in,  56 
paying  of,  against  checks,  92 
paying  tellers,  92 
relation  to  loans,  91 
reserve,  57,  92,  252 
special  items,  79-81 
storage,    90 
Cashier,  24 
Cashier's  check,  166 
Certificates, 

foreign  exchange,  178 
of  deposit,  63-66 
demand,  64 
records  of,  64 
time,  64 
of  loan,  124 
of  stock,  15 
stock  payment,  13 
Charter, 

application,  9 

Form,  10 
preliminaries,  6-9 
privileges  granted  by,  15 
state  banks,  4 
Chattel  mortgages, 

collateral  security,  285 
Check  desk,  work  at,  318 
Checks, 

alteration,  62 

bankers'  foreign  exchange,  180 

cashier's,  166 

certification,  97 

commercial,  foreign  exchange,  180 

duplicate,  61 

indorsement,  60 

paying  cash  against,  92 


Checks — Contintied 

postdated,  60 

stale,  61 

stop-payment,  61 

travelers',  233-245 
Form, 236 
advantages,  238 

types,  239 

use  in  transfer  of  money,  126 
Circular  letter  of  credit,  241 

travelers',  241 
Circulating       notes     (See       "Bank 

notes") 
City  collection  department,  119,  154 
Clayton  Act,  19 
Clean  credits,  241 
Clearance  loan,  279 
Clearing, 

organization  for,  105 

preparation  of  checks  for,  1 1 1 

process, 

federal  reserve  system,  134 
transit  items,  132 
Clearing  house  associations. 
Form,  112 

adjustments,  118 

advantages  of,  104 

bank  examinations,  124,  346 

city  collection  department,  119 

committees,  109 

country  collection  department,  1 19 

daily  proof,  114 

delivery  of  items  at,  113 

errors,  118 

establishment  of,  106 

fines,  118 

forms,  discussion.  III 

items  handled  by,  no 

loan  certificates,  124 

manager,  108 

membership,  107 

New  York,  105-125 
collection  of  trusts,  128 
exchange  charges,  142 


384 


INDEX 


Clearing  house  associations — CorU'd 
organization  of  work,  109 
payment  of  balances,  96 
receipt  of  items  at,  113 
regulations, 

depositors'  balances,  120 

exchange  charges,  121 

reserves,  121 
service  to  non-members,  108 
sessions,  112 
settlement,  118 

through  Federal  Reserve  Bank, 
116 
settling  clerk,  112,  113,  114 
statements  to,  337 
transit  collections,  133 
weekly  reports  by  member  banks, 

125 

Collateral  securities,  277-285 
arrival  drafts,  278 
bank  stock,  282 
bills  of  lading,  277,  282 
chattel  mortgages,  285 
life  insurance  policies,  285 
margin  requirements,  281 
merchandise  loans,  changes  in,  296 
negotiable  form,  281 
notes  receivable,  277 
preferences,  280 
real  estate  mortgages,  283 
stocks  and  bonds,  277 
trust  receipts,  285 

Form,  284 
variety  and  size,  281 
warehouse  receipts,  277,  282 
withdrawal  and  substitution  of,  295 
Collateral  trusts,  355 
Collections, 
charges,  143 
coupons,  152,  157 
department, 

bank  drafts,  166 

cashier's  checks,  166 

city,  119,  154 


Collections — Continued 
department — Continued 

daily  proof,  168 

delivery  of  valuable  papers,  165 

distribution  of  receipts,  168 

functions,  150,  165-168 

import  collection  department, 
225 

overdue  accounts,  165 

personnel,  153 

remittances,  167 

special  deposits,  166 

telegraphic  transfers,  166 
documentary  drafts,  161 
drafts,  151 
export, 

cable  payment  method,  199 

cable  proceeds  method,  200 

cable  transfer  method,  200 

defined,  195 

handling  items,  197 

settlement  between  banks,  198 

settlement  with  owner,  199 
foreign,  195-201 

nature  of,  196 

transactions  giving  rise  to,  196 
import,  222-232 

defined,  195 

discounting,  226 

handling,  225 

import  collection  department,  225 

long  bills,  230 

settlement,  226 
items, 

defined,  149 

filing,  161 

kinds,  150 

payment,  162 

presenting  for  payment,  155 

receiving,  155 

recording,  161 

settlement  with  owner,  165 
letter  advising  credit  for  proceeds 

of  a  collection.  Form,  163,  164 


INDEX 


385 


Collections — Continued 

matured  bonds   152,157 

notes,  151 

out-of-town  items,  158 

overdue  accounts,  165 

protests,  160 

reasons  for  handling,  152 

register.  Form,  156 

remittance  letter  for.  Form,  159 

revenue  from,  167 

transit  items,  126-148 

unpaid  cash  items,  160 

vs.  transits,  149 
Commercial  banks,  7,  37 

credit,  255 
Commercial  bills,  176 
Commercial  credit    (See  "Letters  of 

credit,  commercial") 
Commercial    discounts    (See     "Dis- 
counts") 
Commercial  paper,  definition.  Federal 

Reserve  Act,  288 
Commercial  parity,  175 
Comparative  statement,  Form,  263, 

264 
Comptroller, 

of  bank,  24 

of  currency,  9,  10 
statement  to,  337 
Consular  invoice,  178 
Contingent  liabilities,  credit  analysis, 

268 
Continuous  audits,  343 

purpose,  344 
Contracts, 

foreign  exchange,  187 

stock  exchange  call  loan,  292 
Form,  293-294 
Conventions,  foreign  trade,  378 
Corporations, 

bank  as  fiscal  agent,  368 

bank  as  registrar,  366 

bank  as  representative,  362-373 

bank  as  trans  er  agent  for,  363 

25 


Corporations —  Co  ntinued 

dividends,    payment    by    transfer 
agent,  365 
Correspondent  banks,  129 

remittance  letter  to.  Form,  131 
service  of,  130 
"Counterfeit  Detector,"  89 
Counterfeit  money,  89 
Country       items       (See       "Transit 

items") 
Coupons, 

collection,  152,  157 

collateral  securities,  298 
envelope.  Form,  158 
payments,  369 
Credit,  250-272 
agencies,  259 
analysis,  261-272 

application    for     financial     state- 
ment, 262 
commercial  (See  "  Letters  of  credit, 

commercial") 
commercial  banks,  255 
defined,  250 

department,  functions,  257 
information, 

dissemination  of,  269 
records,  259 
revision,  261 
sources,  258 
investment  banks,  254 
letter  advising  credit  for  proceeds 

of  collection.  Form,  163,  164 
rating  of  applicant,  256 
stipulations  regarding,  271 
Current  assets,  267 
Current  liabilities,  credit  analysis,  267 
Customers, 

bank  as  representative  for,  362-373 
bill  for  exchange  charges  to,  Form, 

143 

investment  service,  309 
securities  service,  359 
service  to,  378 


386 


INDEX 


Customers  ledger,  319 

Form.  320 
bookkeeper,  315 
Customers'  liability  ledger,  302 

Form,  303 


Daily  statement,  general  ledger  de- 
partment, 333 
Demand  certificate  of  deposit,  64 

Form,  65 
Demand  loans,  279 
Departmental  proof,  defined,  71 
Departments,  24 
Deposit  currency, 

defined,  50 

vs.  bank  notes,  51 
Depositors, 

protection  of,  93,  95 

purpose  of,  44 
Depositors'  accounts, 

analysis  of,  28 

cost  of  handling,  29 

eliminating  undesirable,  27 

interest  rates  on  balances,  120 
Depositors  ledger  department  work, 

316 
Deposits, 

by  mail,  74-83 

cash  items,  56 

certificates  of,  63 

collection  items,  56 

created  through  loans,  44 

defects  in,  60-62 

distribution  of,  66 

foreign,  by  mail,  81 

function  of,  bank,  43 

instruction  accompanying,  81 

origin,  56 

receipt  for,  63 

sUps,  60,  66 
proof,  69 
Form,  70 


Deposits —  Co  ntin  tied 

sorting  items  of,  67 
Form,  68 
Descriptive  ledgers,  330 

use,  332 
Directorates,  interlocking,  18 
Directories,  foreign  language,  378 
Directors, 

authority,  20 

compensation,  20 

eligibility,  under  the  Clayton  Act, 
18 

functions,  21 

liability  of,  21 

number,  17 

oath  of  office,  12 

qualifications,  17 

selection,  21 
Discharge,  employees,  32 
Discount  clerk,  work,  294 
Discount    department    (See    "Loan 

and  discount  department") 
Discounts,        273-286,      (See       also 
"Loans") 

cash,  287 

contrasted  with  loans,  275 

foreign,  201-209 

import  collections,  226 

listed  for  rediscounts,  298 

payment,  300 

theory,  274 

trade  acceptances,  275 

unsecured,  286 
Dividends,    payment    by    bank    as 

transfer  agent,  365 
Documentary    drafts,    collection   of, 

161 
Domestic      exchange       (See      "Ex- 
change") 
Drafts, 

arrival,  security  for  loans,  278 

bank,  issuance,  166 

collection  of,  151 

documentary,  collection,  161 


INDEX 


387 


Drafts — Continued 

foreign,  application  for,  231 

sale,  227 

selling  price,  232 
sight,  182 


Export — Continued 

trade,  bank  as  representative,  371 
Exports,  source  of  foreign  exchange, 
193 


£ 

Edge  Act,  20 
Educational  work,  33 
Employees, 

absence  of,  32 

application  and  references  of,  31 

bonding  of,  31 

discharge  of,  32 

interviewing,  31 

training,  33 

transferring,  31 
Errors,  bookkeeping,  322 
Examinations,  340-349 

clearing  house,  346 

external,  340 
purpose,  340 

governmental,  346 

procedure,  347 
Exchange, 

domestic  vs.  foreign,  170 

foreign,  169-182 

function  of  bank,  47,  loi 

transit,  102 
Exchange  charge,  79 

assessment,  142 

bill  to  customer.  Form,  143 

collection,  143 

elimination  by  routine,  139 

federal  reserve  banks,  136 

New  York  Clearing  House,  142 

regulation  of,  121 

theory,  144 
Executor,  trust  department  as,  353 
Expense  account,  336 
Export, 

commercial  credit,  217-220 

foreign  collections,  J95-201 


Federal  reserve  banks, 

adjustment   of    balances    through, 

117 
aid  to  transit  collections,  134 
as  clearing  house,  147 
exchange  charges,  136 
gold  settlement  fund,  135 
items  accepted  for  collection,  136 
lawful  reserve,  96 
membership     in     clearing     house, 

108 
notes,  50 

issuance  of,  48 
security  of,  49 
payment  of  clearing  house  balances 

through,  96 
rediscounts,  299 
Fiduciary  functions,  53,  350-361 

payment  for,  360 
Finance  bills,  182,  194 
Financial  statement, 

application  for  credit,  262-269 
comparative   statement   of   a   cor- 
poration. Form,  263-264 
First  teller  (See  "Paying  teller") 
Fiscal  agent, 
bank  as,  368 
collection  of  income  tax  payments, 

369 

Fixed     liabilities,      credit     analysis, 

268 
"Float,"  cost  of,  137 
Foreign  branches,   establishment  of, 

16 
Foreign  deposits,  by  mail,  81 
Foreign  discounts, 

accompanied  by  documents,  202 


388 


INDEX 


Foreign  discounts — Continued 

charges,  payment  of,  205 

conversion  rate  on,  204 

dishonored  items,  208 

dollar  items,  207 

foreign  currency  items,  206 

increase  supply  of  exchange,  201 

items  forwarded  for  collection, 
205 

rate,  determination  of,  204 

settlement  between  banks,  208 

settlement  with  owner,  203 

United  States  and  foreign  currency, 
201 
Foreign  drafts, 

application,  231 

sale,  227 

selling  price,  232 
Foreign  exchange,  103 

accumulation,  193-221 

arbitrage,  190 

balances,  192 

bankers'  checks,  180 

bankers'  long  bills,  181 

bills  of  exchange,  176 

borrowing  abroad,  194 

buying  rate,  187 

cables, 
rate,  186 
transfer  by,  182 

certificates,  178 

commercial  checks,  180 

commercial  credits,  210-221  (See 
also  "Letters  of  credit,  commer- 
cial") 

commercial  parity,  175 

contracts,  187,  188 

dealers  in,  183 

defined,  169,  170 

department  records,  192 

documents,  176-182 

exports,  193 

finance  bills,  182,  194 

foreign  collections,  195-201 


Foreign  exchange — Continued 

foreign  discounts,  201-209 

foreign  loans,  194 

gold  export  point,  174 

gold  import  point,  174 

gold  shipments,  194 

handling,  183-192 

invoices,  178 

marine  insurance,  178 

market,  184 

market  parity,  175 

mint  parity,  172 

ocean  bill  of  lading,  177 

operations,  171 

parity  sheet,  185 

position  sheets,  191 

price  limitation,  173 

rates,  173,  185 
making,  187 

sale  of,  222-249 

securities,  sale,  193 

selling  rate,  187 

sight  drafts,  182 

supply,  193 

"traders,"  184 

"unit  par,"  173 
Foreign     import     collections,     224- 

232 
Foreign  items  (See  "Transit  items") 
Foreign  loans,  demand  for  exchange, 

194, 223 
Foreign  payment  letter,  Form,  229 
Foreign  securities,  purchase,  demand 

for  foreign  exchange,  222 
Foreign  trade, 

conventions,  378 

department,  375 

development,  374 

foreign  branches,  376 

reports,  376 
Formal  contracts,  foreign  exchange, 

187 
Future   contracts,  foreign  exchange, 
188 


INDEX 


389 


General  audit,  345 

General  ledger  bookkeepers,  316 

General     ledgers       (See      "Ledgers, 

general") 
Gold  export  point,  174 
Gold  import  point,  174 
Gold  settlement  fund,  federal  reserve 

system,  135 
Gold    shipments,    source    of    foreign 

exchange,  194 
Government  regulation,  5 


Immigrants,  remittances,  demand  for 

foreign  exchange,  223 
Import, 

collection  department, 

discounts,  226 

items  accepted,  225 
collections,  224 

commercial  credits,  216,  217,  245 
foreign  collections,  195 
trade,     bank     as     representative, 

371 
Importation,   source  of  demand  for 

exchange,  222 
Income     tax,     collection     by     fiscal 

agents,  369 
Incorporated  banks,  3 
Incorporation,  3 
articles  of,  1 1 
Individual  ledger  bookkeeper,  315 
Informal  contracts,  foreign  exchange, 

187 
Instructions  accompanying  deposits, 

81 
Insurance, 
life    insurance    policies,    collateral 

security,  285 
marine,  178 
warehouse,  283 


Interest, 

accrued,  301 

investment  securities,  311 

collateral  securities,  payment,  298 

daily  balances,  computing,  325 

delays,  80 

discounts,  295 

payment, 

by  registrar,  367 
demand    for    foreign    exchange, 
223 

rates,  exchange,  185 

record  of,  301 
Interlocking  directorates,  18 
Inventory,  credit  analysis,  265 
Investigators,  82 
Investment  banks,  254 
Investments, 

accrued  interest,  311 

bonds  as,  305 

discounts  as,  273-276,  286 

loans  as,  273-285 

market  price,  change  of,  310 

of  trust  funds,  354 

record  of  securities,  311 

reinvestments,  312 

securities,  305-312 

service  to  customers,  309 
Invoices,  foreign  exchange,  178 


Job  analysis,  32 


Kansas  City  Clearing  House,  134 
Kern  Amendment,  19 


Ledgers,  313-339 

alphabetical  division,  317 
classification,  317 


390 


INDEX 


Ledgers —  Co  ntin  ued 
customers,  315 
Form,  320 

alphabetical  division,  317 
customers'  liability,  302 

Form,  303 
depositors,  317 
descriptive,  330,  332 
general,  316,  328-339 

check  on  work  of  other  depart- 
ments, 330 

function,  328 

nominal  accounts,  330 

property  accounts,  330 

subsidiary,  331 
loan,  302 

loose-leaf,  317,  321 
proving,  323 
stock,  365 
subsidiary,  330 
Legal  department,  34 
Legislation, 

Clayton  Act,  19 

Edge  Act,  20 

Kern  Amendment,  19 

National  Bank  Act,  1863,  5 

Pomerene  Bills  of  Lading  Act,  1916, 

282 
Letters  of  credit,  commercial, 

Form,  211 
advantages,  212 
bank's  profits,  213 
clean,  214 
defined,  210 
documentary,  214 
dollar  and  foreign  currency,  213 
domestic,  220 
export, 

duties  of  bank,  217 

examination  of  documents,  220 

opening  of,  219 

payments,  220 

proportion  to  import,  217 
fixed,  216 


Letters  of  credit,  commercial — Con- 

linued 
import,  245 

duties  of  bank,  216 

handling,  245-248 

proportion  to  export,  217 

records,  248 
irrevocable,  214 
method  of  payment,  214 
reimbursement,  215 
revocable,  214 
revolving,  216 
typical  transaction,  210 
Letters  of  credit,  travelers',  233-249 

Form,  234-236 
application,  242 
checks,  233 

cashing,  244 

how  issued,  243 
circular,  241 
classification,  239-241 
clean  credit,  241 
collateral  credits,  240 
expiration  and  renewal,  238 
guaranteed  credit,  240 
lost,  238 
paid  credit,  239 
types,  239 
use,  237 
Letter  transfers,  228 

Form,  229 
Liabilities, 

contingent,  credit  analysis,  268 
current,  credit  analysis,  267 
fixed,  credit  analysis,  268 
nature  of,  329 
Liability  accounts,  389 
Life     insurance     policies,     collateral 

security,  285 
Living  trust,  354 
Loan  and  discount  department,  289- 

304 
call  loan  rate,  recording  changes,, i^gS 
calling  of  loans,  299 


INDEX 


391 


Loan    and    discount     department — 

Continued 
collateral    securities,    examination, 

290 
customers'  liability  ledger,  302 

Form,  303 
interest,  collection,  298 
loan  cards,  302 
loan  journal,  302 
loan  ledger,  302 
loan  tickler,  302 
maintenance  of  margin,  297 
records,  302 
rediscounts,  298 
work,  289,  304 
Loans,     273-285       (See  also  "Dis- 
counts") 
application  for,  290 
bank,  rating  of  applicant,  256 
call,  299 
cards,  302 
certificates,  124 
classification  by  duration,  279 
classification  by   security  pledged, 

277 
collateral  security,  277-285 

changes  in,  296 

negotiable  form,  281 

preference  for,  280 

variety,  281 

warehouse  receipts,  277 

withdrawal  and  substitution,  295 
contrasted  with  discounts,  275 
demand,  279 
foreign,  194 

demand  for  exchange,  223 
function  of  bank,  52 
journal,  302 
ledger,  302 

margin  requirements,  281 
one-day,  279 
open  market,  288 
relation  to  cash,  91 
relatioji  to  deposits,  57 


Loans — Continued 

stock  exchange  call  loans, 
contract,  292 

Form,  293-294 
rate,  290,  291 
rate,  changes  in,  298 
tickler,  302 
time,  279 

payment,  300 
Long  bills,  230 
Loose-leaf  ledgers,  321 

M 

Mail,  preparation  for  clearing  house, 

75 
Mail  teller, 

daily  proof,  76 
Form,  78 

duties,  74 
Mailing  department, 

characteristics,  82 

incidental  activities;  80-83 

opening  mail,  75 

proving  cash  items,  76 

sorting  mail,  76 

work  of,  74 
Management,  17 

problems  of,  25-36 
Margin, 

definition,  281 

maintenance,  297 

of  safety,  249 
Marine  insurance,  1 78 
Market  parity,  175 
Matured  bonds,  collection,  152,  157 
Medium     of     exchange     (See    "Ex- 
change") 
Merchandise  loans,  277 

changes  in  collateral,  296 
Messengers'  department,  154 
Mint  parity,  foreign  exchange,  172 
Money,     (See  also  "  Cash  ") 

coimterfeit,  89 


392 


INDEX 


Money —  Continued 

counting,  88 

mutilated,  90 

raised,  89 

sorting,  88,  90 

transfer  by  check,  126 
Mortgages, 

chattel,  collateral  security,  285 

real  estate,  collateral  security,  283 
Mutilated  money,  89 


Officers — Continued 

vice-presidents,  23 
One-day  loan,  279 
Open  market,  borrowing  in,  288 
Organization,  3,  6 

certificate,  12 

papers,  11-14 
"Over  and  short"  account,  100 
Over  drafts,  326 
Overdue  accounts,  collection,  165 


N 

National  Bank  Act,  1863,  5 
National  bank  notes, 

issuance  of,  47 

medium  of  exchange,  48 
National  bariks,  5 

as  fiduciary  agents,  351 

minimum  capital  required,  8 
"Natural  person,"  defined,  9 
New  business,  25 
New  York, 

center  for  foreign  exchange,  183 

Clearing    House     (See    "Clearing 
house  associations,"  New  York) 
Nominal  accounts,  330 
Note-brokers,  288 
Notes, 

collection,  151 

discounting  of,  273 

federal  reserve,  48 

receivable, 

borrowing  on,  287 
credit  analysis,  264 
security  for  loans,  277 


Ocean  bill  of  lading,  177 
Officers,  22 

cashier,  24 

president,  22 

signatures,  13 


Parity, 

commercial,  175 

mint,  172 

sheet,  foreign  exchange,  185 

Paying  department, 
cash  operations,  88-93 
certification  of  checks,  97 
clearing  house  balances,  96 
disposition  of  items,  exchange  for 

cash,  96 
functions  of,  87,  95,  97 
orders  on  paying  bank,  93 
paying  function  defined,  85 
personnel,  86 
protection  of  depositor  and  bank, 

93 

signature  records,  94 

stop-payment  lists,  94 
Paying  teller, 

daily  proof,  99 

"over  and  short"  account,  100 

responsibility,  85,  92,  93 
Payments,  by  check,  126 
Personnel  department,  30-34 

analysis  of  salary  schedules,  32 

job  analysis,  32 
Pomerene  Bills  of  Lading  Act,  19 16, 

282 
Postdated  checks,  60 
Posting  machines,  321 
President,  22 


INDEX 


393 


Private  banks,  3 

Profit,  sources,  305 

Profit    and    loss    statement,    credit 
analysis,  269 

Property  accounts,  330 

Protective  devices,  91 

Protests,  collection,  160 

Public    supervision    (See    "Govern- 
ment regulation") 

Publicity  department,  26 
statistics,  30 


"Rack,"  76 

Form,  77 
Raised  money,  89 
Rates, 

conversion,   on   foreign   discounts, 
204 

exchange,  185-187 

stock  exchange  call  loans,  changes 
in,  298 
Real  estate, 

credit  analysis,  266 

mortgages,  collateral  security,  283 
Recapitulation  sheet,  332 
Receipts, 

certificates  of  deposit,  63 

depositor's,  63 
Receiverships,  355 

Receiving     operations      (See     "De- 
posits") 
Receiving  teller,  56 

batch  proof,  69 

daily  proof,  71 
Form,  72 

duties,  59 

responsibility,  60-62 
Records,  loan  and  discount  depart- 
ment, 302 
Rediscounts,  298 
Registrar, 

compensation,  370 


Registrar—  Continued 

corporations,  bank  as,  366 
functions,  366 
payment  of  interest,  367 
Reinvestments,  312 
Remittance  letter  for  collection  items. 

Form,   159 
Remittance  letter  to   correspondent 

bank,  Form,  131 
Remittances,  care  of,  167 
Reorganization,   trustee  in   proceed- 
ings, 357 
Reports,  transit  department,  141 
Representative    functions    of    bank, 

362-373 
Research   department    (See   "Statis- 
tical department") 
Reserve, 

bonds  as  secondary,  307 

computing,  333 

regulation  of,  121 

restoring  methods,  334 
Returned  and  protested  items,  79 
Routers,  82 


Savings  banks,  7,  37 

Second      teller       (See      "Receiving 
teller") 

Securities, 

collateral    (See  "Collateral  securi- 
ties") 
corporation,  source  of  profit,  308 
customers',  records,  360 
foreign,   purchase  of,   demand  for 

exchange,  222 
held  by  trust  department,  358 
investment,  care,  311 
market  price,  change  of,  310 
purchase  and  sale,  profit  from,  305 
sale,    source  of    foreign   exchange, 

193 

service  to  customers,  359 


394 


INDEX 


Service, 

to  community,  35 

to  customers,  378 
Settling  clerk,  112,  113,  114 

statement  of,  Form,  115 
Shareholders  (See  "Stockholders") 
Sight  drafts,  foreign  exchange,  182 
Signatures,  bookkeepers  responsibil- 
ity for,  327 
Signature  records,  94 
Sinking  fund  payments,  trust  depart- 
ment, 356 
Special  deposits,  166 
Spot  audits,  343 
Spot     contracts,    foreign     exchange, 

188 
Stale  checks,  61 
State  banks, 

charter,  4 

classification,  7 

incorporation,  4 

minimum  capital  required,  8 
Statements, 

daily,  333 

for  publication,  337 
Form,  338 

general  bookkeepers,  334 

monthly  interest  earnings.   Form, 

335 
to  clearing  house  associations,  337 
to  Comptroller  of  Currency,  337 
Statistical  department,  value,  30 
Statistics,  loan  and  discount  depart- 
ment, 301 
Stock, 
bank,  as  collateral,  282 
certificates,  15 
issuance,  365 
corporation, 

objection    to,    as    bank    invest- 
ments, 305 
source  of  profit,  308 
credit  analysis,  266 
industrial,  collateral  for  loans,  280 


Stock — Continued 
issuance  of,  14 

new,  366 
ledgers,  365 
payment  certificate,  13 
railroad,  collateral  for  loans,  280 
security  for  loans,  277 
transfer  of,  15 
ownership,  363 
records,  364 
Stock  exchange, 
call  loan,  290 
contract,  292 

Forn:;,  293-294 
rate,  291 

rates,  changes  in,  298 
Stockholders, 
liability  of,  10 
selection  of,  6 
Stop-payments,  61 

lists,  94 
Subsidiary  general  ledgers,  331 
Subsidiary  ledgers,  330 
Supplies,  purchase  of,  35 


Telegraphic  transfers,  166 
Teller,     (See  also  "  Receiving  Teller, ' ' 
"Paying  Teller,"  "Mail  Teller") 

function  of,  58 
Time  certificate  of  deposit,  64 

Form,  65 
Time  loans,  279 

payment,  300 
Trade  acceptances,  275,  288 
"Traders,"  foreign  exchange,  184 
Transfer  agent, 

bank  as,  363 

compensation  for,  370 

dividend  payments  by,  365 

information  required  by,  364 
Transfer  of  money, 

by  cable,  227 


INDEX 


395 


Transfer  of  money— Continued 
by  check,  126 
by  foreign  drafts,  227 
by  letter,  228 
Transit  department,     (See  also  "  Im- 
port collection  department") 
aid  in  analyzing  accounts,  141 
collection  of  exchange  charges,  143 
interbank  relations,  129 
operations,  137-142 
reports,  141 
Transit  items,  126-148 

accepted  by  federal  reserve  banks 

for  collection,  136 
clearing  process,  132 
collection, 

clearing  houses,  133 
remittance  letter  to  correspond- 
ent bank.  Form,  131 
time  required,  136 
defined,  127 

federal  reserve  system,  134 
routing,  138 
settlement  for,  140 
"trusts,"  collection  by  New  York 

Clearing  House,  128 
unusual  collection  system,  139 
Translators,  82 
Travelers, 

checks,  233-245 
Form,  236 
advantages,  238 
lost,     238 
types,  239 
letter  of  credit,  233-245 

Form,  234-235 
service  to,  377 
Trust  companies,  7,  38 


Trust  department,  352 

as  executor  or  administrator,  353 

reorganization  proceedings,  357 

sinking  fund  payments,  356 
Trust  funds,  investment,  354 
Trust  receipt. 
Form,  284 

collateral  security,  285 
Trusts, 

collateral,  355 

collection  by  New  York  Clearing 
House,  128 

voluntary,  354 
Trusts  and  trustees,  350-361 

national  banks  as,  351 

payment,  360 


"Unit  par,"  foreign  exchange,  173 

"Unit"  system,  59 

Universal  collection  system,  139 


Vaults,  91 
Vice-presidents,  23 
Voluntary  trust,  354 
Voucher  register,  336 

W 

Warehouses, 

approved,  283 

insurance,  283 
Warehouse  receipts, 

collateral  securities,  282 

security  for  loans,  277 
Welfare  work,  33 


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